A finance leaseA contract that transfers substantially all the rights and risks of ownership of an asset from the lessor to the lessee. transfers the rights and risks of ownership of the leased asset from the lessorThe party in a lease transaction that owns the property and grants the lessee the right to use it for a period of time in exchange for paying rent. When a lease involves real property, the lessor is also called the landlord. to the lesseeThe party in a lease transaction that pays rent to the lessor for the right to use the lessor's property for a period of time. When a lease involves real property, the lessee is also called the tenant.. The lessee recognizes a right-of-useAn asset recorded for a lease that includes the lease liability's initial measurement (at present value of lease payments), any lease payments made less any lease incentives, and any initial direct costs incurred. (ROU) asset and a lease liability at the present value (PV) of the lease payments.

The lessee amortizes the ROU asset on a straight-line (S/L) basis over the shorter of its useful life or the lease term, unless there is a purchase option that is reasonably certain to be exercised or the title transfers at the end of the lease. In such cases, the ROU asset is amortized over its useful life since the lessee will ultimately own the asset.

In this scenario, Nori Mining Co. has a finance lease. The ROU asset is $240,000 (ie, PV of lease payments) and is amortized over its 8-year useful life, because Nori expects to exercise the purchase option at the end of the lease term. The annual ROU amortization is $30,000 ($240,000 ROU asset / 8 years). The $20,000 fair value at the end of the lease term is not included in the S/L calculation for ROU amortization (Choice D).

(Choice A) Amortization of $48,000 uses the lease term instead of the useful life.

(Choice B) Amortization of $46,000 uses the lease term and excludes the $10,000 purchase option.

Things to remember:
In a finance lease, the lessee records a right-of-use (ROU) asset and a lease liability equal to the present value of the lease payments, including a purchase option if it is reasonably certain to be exercised. The ROU asset is amortized over the shorter of its useful life or the lease term. If there is a purchase option or title transfer, the ROU asset is amortized over its useful life.