Operating Lease in Accounting: Definition, Calculation & Example

An error occurred trying to load this video.

Try refreshing the page, or contact customer support.

Coming up next: Receivables Turnover: Definition, Formula & Example

You're on a roll. Keep up the good work!

Take Quiz Watch Next Lesson
Your next lesson will play in 10 seconds
  • 0:00 What is an Operating Lease?
  • 2:00 Businesses and…
  • 3:30 Accounting for an…
  • 4:45 Lesson Summary
Save Save Save

Want to watch this again later?

Log in or sign up to add this lesson to a Custom Course.

Log in or Sign up

Speed Speed
Lesson Transcript
Instructor: Ryan Hultzman
In this lesson, we will identify the nature of leases, the requirements that must be met to treat a lease as an operating lease, and how to account for an operating lease.

What Is an Operating Lease?

A lease gives you the right to use an asset for a certain period of time. In a lease, someone makes a monthly payment for as long as they have the right to use the asset. An operating lease is a lease that allows you to use an asset but doesn't give you the benefits usually associated with ownership. Accounting rules are very specific as to the criteria that must be met for a lease to be considered an operating lease. An operating lease is one that doesn't violate any of the following four rules or criteria established within accounting standards:

  • Use the asset for less than 75% (or 3/4) of its useful life.

Suppose a business leases company cars for its sales force. If these cars have useful lives of 10 years and the companies leases them for 8 years, then it has the benefit of using them for 80% of their useful life. Another buyer would only get 2 years use of the car. That second buyer is basically getting a second-hand car. Clearly, the first business owned the car even though they called it a lease.

  • Have ownership remain with the lessor at the end of the lease.

Ownership transferred at the end of the lease cannot happen because the title must remain with the lessor. You cannot be given a title of ownership with an operating lease.

  • Not allow you to purchase the asset at a bargain price at the end of the lease.

If you can get it the leased item at a big discount at the end of the lease, then you own it. It's not an operating lease.

  • Result in paying less than 90% of what the asset is worth on the open market.

If your lease payments result in you paying at least 90% of what it's worth, then you own it. It's not an operating lease.

Provided a business doesn't violate any of those rules, then they would be able to account for the lease as an operating lease. The intent of the parties executing the contract is not a factor. What matters are the terms that are included in the contract.

Businesses and Operating Leases

Some leases require an up-front down payment. Businesses that need access to assets, such as cars, equipment, and buildings, but don't want to own them may decide to lease them from another company. There are several other reasons businesses may find it necessary to enter into operating leases:

To unlock this lesson you must be a Study.com Member.
Create your account

Register to view this lesson

Are you a student or a teacher?

Unlock Your Education

See for yourself why 30 million people use Study.com

Become a Study.com member and start learning now.
Become a Member  Back
What teachers are saying about Study.com
Try it risk-free for 30 days

Earning College Credit

Did you know… We have over 200 college courses that prepare you to earn credit by exam that is accepted by over 1,500 colleges and universities. You can test out of the first two years of college and save thousands off your degree. Anyone can earn credit-by-exam regardless of age or education level.

To learn more, visit our Earning Credit Page

Transferring credit to the school of your choice

Not sure what college you want to attend yet? Study.com has thousands of articles about every imaginable degree, area of study and career path that can help you find the school that's right for you.

Create an account to start this course today
Try it risk-free for 30 days!
Create an account