A rental agreement that obliges the lessee to make a baloon payment at the end of the lease agreement amounting to the difference between the the residual and fair market value of the asset.
Also called a "finance lease".
Since the lessee must purchase the leased asset upon lease expiration, that person bears the risk that the asset depreciates more than was expected by the end of the lease. Of course, at the same time, the lessee stands to realize a gain if the asset depreciates less than expected.
For example, suppose your lease payments are based on the assumption that a $20,000 new car will be worth only $10,000 at the end of your lease agreement. If the car turns out to be worth only $4,000, you must compensate the lessor for the lost $6,000 since your lease payment was calculated on the basis of the car having a salvage value of $10,000. Basically, since you are buying the car, you must bear the loss of that extra depreciation. Conversely, if the car is worth more than $10,000 at the end of the lease, you receive a refund from the lessor.
