Financial Accounting and Reporting-CPA Practice Exam

What is the financial treatment of a lease with terms greater than one year?

1. No need for disclosures

2. Requires total minimum future rental payment disclosures

3. Classified as contingent liabilities

4. Recorded only as operating rental expenses

The correct answer is: Requires total minimum future rental payment disclosures

The financial treatment of a lease with terms greater than one year requires total minimum future rental payment disclosures because such leases fall under the guidelines of accounting standards like ASC 842 in the U.S. Generally Accepted Accounting Principles (GAAP) or IFRS 16 internationally. These standards emphasize transparency and require organizations to identify and disclose lease obligations to provide a clearer picture of financial commitments. Disclosures about minimum future rental payments help users of financial statements understand the future cash flow requirements and the extent of the company's leasing obligations. These disclosures include the total amount owed over the remaining lease term, which is critical for assessing the company's overall financial position and liquidity. In contrast, other options do not align with the accounting requirements. There is indeed a necessity for disclosures in terms of liabilities and expenses related to leasing, thus making the option about no need for disclosures incorrect. Classifying leases as contingent liabilities is also not appropriate under the current accounting standards, as leases represent enforceable obligations rather than uncertain future liabilities. Lastly, merely recording lease payments as operating rental expenses does not present the full picture of lease commitments, which is why minimum rental payment disclosures are required instead.