When considering whether a lease is a finance lease or an operating lease, there’s one condition that’s often enough ignored. People mostly focus on either the option to buy the asset with very low value or the actual transfer of ownership at the end of the term which is considered a definite ‘yes’ for considering the lease as a finance lease (that is the asset and the respective liability are recognized on the balance sheet as opposed to just showing the rental charges as period’s expense. 

The condition that’s ignored often is the fact whether the payments arising from the contract cover majority (90%) of the assets value as it’s considered at the date of signing the contract. The thought process of why it’s important is as follows. Someone has made an investment that you will now use for your business. Although this investment was made by someone else, it’s evidently you who will be paying this someone back what they spent. So effectively you’re making an investment if you go beyond of what’s written and see the essence of the transaction instead.

Such conditions are often overlooked since the ownership as such may not be transferred at the end of the term and it may very well be that the asset is then scrapped etc. by its owner. You’ll just lease another one.

This does not constitute as an operating lease just because you’re not gaining the ownership but a finance lease because you’re effectively making majority of the investment at the end of the day.