Jasmine Crutcher
MEMORANDUM OF LEASE AGREEMENT
U.S. GAAP classifies leases in two types: operating and capital. A lease that transfer substantially all the risks and benefits of ownership is in economic substance a purchase by the lease and a sale by the lessor, this is a capital lease. A lease that does not transfer substantially all the risks and benefits of ownership is classified as an operating lease. In order for a lease to be considered a capital lease it must meet and one of the following four capitalization criteria (FASB ASC 840-10-25-1):
1. The lease transfers ownership of the property to the lessee by the end of the term
2. The lease contains a bargain purchase option
3. The lease term is equal or more of the estimated economic life of the leased property
4. The PV of the minimum lease payments is equal to 90% or more of the FV of the leased property to the lessor
Minimum lease payments are the payments that are expected to be made over the life of the lease including (FASB ASC 840-10-25-4) minimum period payments, payment required by a BPO, any guaranteed residual value, and any payments resulting from failure to renew or extend the lease. If the lease meets none of the four capitalization criteria and a transfer of the risks and benefits of the asset is considered not to have occurred then it is an operating lease. (FASB ASC 840-10-25-43) The lease between Pane Co. (Lessee) and Big Pig Company (Lessor) is a capital lease because it meets the capitalization