Describe the effect of the operating and capital lease methods on the financial statements of the lessee
EFFECT OF THE OPERATING AND CAPITAL LEASE METHODS ON THE FINANCIAL STATEMENTS OF THE LESSEE
Both the leased asset and the lease liability appear on the lessee's balance sheet under the capital lease method, whereas neither appears on the lessee's balance sheet under the operating lease method.
Total expenses under the operating lease method and the capital lease method are the same and equal the total cash expenditures. The operating lease method and the capital lease method differ in the timing, but not in the total amount, of expense. For the lessee, the capital lease method recognizes expenses earlier than the operating lease method. The operating lease method classifies all of the lease payment each period as an operating use of cash on the statement of cash flows. The capital lease method classifies the portion of the lease payment related to interest expense as an operating use of cash and the portion related to a reduction in the lease liability as a financing use of cash. In addition, the lessee adds depreciation expense to net income or net loss to compute cash flow from operations.
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