Tax & Accounting in Leasing Flashcards

What is 'tax deferral' as a benefit in leveraged leasing?

Answer: The ability to use accelerated depreciation and interest deductions to defer taxable income to later years, generating interest-free use of deferred taxes

By front-loading deductions (accelerated depreciation + loan interest), tax-oriented lessors defer tax payments, effectively receiving an interest-free loan from the government in early years.

What is 'gain on sale' in the context of a lessor securitizing a lease portfolio?

Answer: The accounting profit recognized when the present value of future lease cash flows exceeds the carrying value of the leases transferred to a securitization trust

When leases are sold into a securitization trust at prices above their book value, the seller recognizes a gain on sale equal to the excess of proceeds over carrying value.

How does sales tax typically apply to equipment leases in the United States?

Answer: Sales tax applicability varies by state—some tax the full equipment price upfront, others tax each periodic payment, and rules differ for true leases vs. conditional sales

US sales tax treatment of leases is highly state-specific—states may impose tax on the entire sale price, on each payment, or vary by lease type, requiring careful jurisdiction-by-jurisdiction analysis.

What is the 'effective interest method' used for in lease accounting?

Answer: To allocate each lease payment between interest income/expense and principal reduction based on the outstanding balance and the implicit rate

The effective interest method applies the constant periodic rate to the outstanding lease liability or net investment, ensuring interest is recognized in proportion to the remaining balance.

What is 'initial direct cost' (IDC) in lease accounting under ASC 842?

Answer: Incremental costs directly attributable to originating a lease (e.g., commissions) that would not have been incurred without the lease

IDCs are incremental origination costs (like sales commissions) that are capitalized and amortized over the lease term rather than expensed immediately.

What is the 'present value test' for lease classification, and what threshold is commonly used?

Answer: If the present value of minimum lease payments equals or exceeds 90% of the fair value of the leased asset, the lease is classified as a finance lease

The 90% threshold (from old SFAS 13) remains influential; if the PV of lease payments is at or above 90% of the asset's fair value, it signals that the lessee is effectively purchasing the asset.