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Asked by Andrea Barisic on Jul 08, 2024

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A lessee must use which one of the following discount rates to value a capital lease?

A) Prime rate
B) Implicit lease rate
C) Lessee's incremental borrowing rate
D) Lower of implicit lease rate or lessee's incremental borrowing rate

Implicit Lease Rate

The interest rate embedded in a lease agreement, representing the cost of leasing as an annualized percentage, which may not be explicitly stated.

Incremental Borrowing Rate

The interest rate a lessee would have to pay to borrow, on a collateralized basis, funds necessary to lease an asset over a similar term.

Discount Rate

The interest rate used to discount future cash flows to their present value, important in investment analysis and valuation.

  • Understand the composition of minimum lease payments and the integration of residual value guarantees.
  • Fathom the divergence between capital and operating leases from the perspective of both the lessee and the lessor.
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Sevket Emre CinarJul 10, 2024
Final Answer :
D
Explanation :
The correct discount rate to value a capital lease (or finance lease under newer standards) is the lower of the implicit lease rate or the lessee's incremental borrowing rate. This ensures the lease is valued based on the most accurate and beneficial rate for the lessee, reflecting either the specific rate inherent in the lease or the rate the lessee would have to pay for a similar borrowing.

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