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CS Professional · Strategic Management and Corporate Finance · Sources of Corporate Funding

In a finance lease, which of the following best describes the usual position of the lessee?

In a finance lease the lessee usually bears maintenance and insurance, the lease cannot be cancelled during the primary period, and the rentals substantially recover the lessor's investment with a return. Easy cancellation and short tenure are features of an operating lease, and legal title stays with the lessor.

  1. AThe lessor bears the cost of maintenance and insurance, and the lease is easily cancellable at any time
  2. BThe lessee bears maintenance and insurance, the lease is non-cancellable during the primary period, and the lease rentals substantially recover the lessor's investmentCorrect
  3. CThe lessee obtains legal ownership of the asset on signing the lease agreement
  4. DThe lease period is very short compared with the economic life of the asset

Explanation

A finance lease is a long-term, non-cancellable arrangement where the lessor recovers substantially the full cost of the asset plus a return through rentals. The lessee usually bears maintenance, insurance and taxes. Option A describes an operating lease, and the lessor retains legal title in a lease, so C is wrong.

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