Accounting Entries for Assets Purchase on Lease Agreement

When a business acquires an asset on lease agreement, it is important to record the transaction accurately in the accounting ledger to ensure proper financial management. Accounting entries for assets purchased on a lease agreement are slightly different from traditional purchases made with cash or credit. In this article, we will discuss the accounting entries required for assets purchased on lease agreements.

Firstly, it is important to understand the terms of the lease agreement. A lease agreement is a contract between the lessor (owner of the asset) and the lessee (the business acquiring the asset) where the lessee agrees to make regular payments to the lessor for the use of the asset. The lease agreement can either be a finance lease or an operating lease.

Finance Lease

A finance lease is when the lessee assumes all the risks and rewards associated with ownership of the asset. In accounting terms, the leased asset is treated as if it is owned by the lessee. The lessee will need to make the following accounting entries:

1. Record the leased asset as an asset on the balance sheet – The lessee must record the leased asset on their balance sheet as a fixed asset. The value of the asset should be the present value of the lease payments over the lease term.

2. Record the lease liability on the balance sheet – The lessee must record the lease liability on their balance sheet as a long-term liability. The value of the lease liability should be the present value of the lease payments over the lease term.

3. Record the depreciation and interest expense – The lessee must depreciate the leased asset over its useful life. The interest expense must also be recorded, which is the interest on the lease payments charged by the lessor.

Operating Lease

An operating lease is when the lessee does not assume all the risks and rewards associated with ownership of the asset. In accounting terms, the leased asset is not recorded as an asset on the lessee`s balance sheet. The lessee will need to make the following accounting entries:

1. Record lease payments as an expense – The lessee must record the lease payments as an expense on their income statement. The expense should be recognized on a straight-line basis over the lease term.

2. Record the lease liability on the balance sheet – The lessee must record the lease liability on their balance sheet as a short-term liability.

3. Record the interest expense – The lessee must record the interest expense on the lease payments charged by the lessor.

Conclusion

In summary, accounting entries for assets purchased on lease agreements require careful consideration of the terms of the lease agreement. It is important to accurately record the leased asset, lease liability, and related expenses to ensure proper financial management. By understanding the accounting entries required for assets purchased on lease agreements, businesses will be able to make informed decisions on whether to purchase assets outright or acquire them on lease agreements.