Question

Identify the lease classifications for lessors and the criteria that must be met for each classification.

Short answer

The grouping of operating leases, direct-financed lessee and sale type leases are classified from the lessor's point of view for accounting purposes.

Step-by-step solution

Meaning of Lease

In exchange for one or more payments, a lessor agrees to allow a lessee to have authority over the use of a specific property, plant, or equipment for a specified length of time. Depending on whether an entity is a lessee or a lessor, there are different types of lease designations.

Explaining the lease classifications for lessors and the criteria that must be met for each classification.

A capital lease fits one or more of the following three characteristics from the perspective of the lessor:

1. Ownership is transferred through a lease.
2. A lease period is equal to or exceeds 75% of a property's expected economic life.
3. The present value of the minimum lease payments (excluding executory expenses) is equal to or surpasses 90% of a property's fair value.

And meet both of the following criteria:

1. A lessee's ability to pay is relatively foreseeable, and
2. There are no significant uncertainties regarding the amount of un-reimbursable expenditures yet to be spent by the lessor.

Direct-financing and sales-type capital leases are the two types of capital leases. The existence or absence of a manufacturer's or dealer's profit or loss is what distinguishes a direct-financing lease from a sales-type lease for a lessor.