Question

Cullumber Co. processes jam and sells it to the public. Cullumber leases equipment used in its production processes from Marin, Inc. This year, Cullumber leases a new piece of equipment from Marin. The lease term is 5 years and requires equal rental payments of $15,000 at the beginning of each year. In addition, there is a renewal option to allow Cullumber to keep the equipment one extra year for a payment at the end of the fifth year of $13,000 (which Cullumber is reasonably certain it will exercise). The equipment has a fair value at the commencement of the lease of $75,077 and an estimated useful life of 7 years. Marin set the annual rental to earn a rate of return of 7%, and this fact is known to Cullumber. The lease does not transfer title, does not contain a bargain purchase option, and the equipment is not of a specialized nature. Click here to view factor tables. How should Cullumber classify this lease

Answer 1

Answer: Cullumber should classify this lease as a financial lease

Explanation:

Financial Leasing is a method of financing whereby a the lessor buys asset on the lessee whom is the customer.

The above is a financial lease due to:

1. With regards to the property's estimated economic life the lease term is about 75% or more.

2. At the end of the lease term, the asset will have no alternative use to the lessor.

3. The present value with regards to the minimum lease payments is not reflected in the lease payments.