§3674 Long-term Lease or Charter Defined; Substantial Termination Liability

Summary

A lease, charter, service contract, or conditional sale is treated as a long-term agreement if it runs for five years or more, or for more than half the item’s useful life. It is also long-term if the first term is under five years but has options that, when added, make it five years or more. Extensions count the same way. If the owner first puts the item in service under the deal, or the item has been in service under a year and the owner can take an investment tax credit or depreciation under section 168 of the tax code (unless they chose straight-line depreciation), the time tests are three years instead of five. The United States has a substantial termination liability under a contract if it agrees to pay at least 25 percent of the item’s value, measured as the present value of the U.S. termination obligation under rules set by the Secretary of Defense. The U.S. can also be treated as having a substantial termination liability if, under Secretary of Defense rules, the combined present value of (A) the termination amount at the contract’s end (not counting options) and (B) the present value of payments the U.S. must make under the contract (not counting options) for buying or hiring the item, meets the prescribed test.