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Definition: Fixed Price Purchase Option
It is an agreement that gives the right but not the obligation to the lessee the choice of buying a leased item from the lessor at a predetermined fixed price on a specific date. At the time of agreement this purchase price of equipment is fixed. Exercise details are usually mentioned on the agreement. Some categories of assets that are considered under fixed price purchase options include real estate, heavy machinery and automobiles.
The key benefit of the fixed price purchase option for the lessee is he/she knows the price of the asset at a future date. Hence the future price uncertainty is eliminated. On the other hand in case of a Fair market value lease, the buyer of the option has the right to buy the asset under consideration at the end of lease period but at the fair market price. So the price uncertainty is not eliminated as the buyer does not know the price of the asset in advance.
On the exercise date if the market price of asset is more than the fixed price the option will be exercised and the buyer will gain by the price difference less the option price. If the market price is less than the fixed price on exercise date then the option is not exercised and the seller pockets the option price.
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