Question

40. Douglas Co. leased machinery with an economic useful life of 6 years. For tax purposes, the depreciable life is 7 years. The lease term is for 5 years and Douglas can purchase the machinery at fair value at the end of the lease. What is the amortization period for the right-of-use asset related to the leased machinery for financial reporting

Answer 1

5 years

Step-by-step explanation:

In a financial lease, the lessee acquires ownership of the asset and must depreciate it as any other purchased asset. But in this case, the option of purchasing the asset is not certain, since purchasing the machinery at fair value is open to bargaining. Therefore, Douglas must depreciate the asset during the term of the lease = 5 years.

Douglas cannot consider this an operational lease, because the lease period exceeds 75% of the asset's useful life ⇒ 5 years / 6 years = 83.3% of the assets useful life.