Leasing

Chapter # 6

Leasing is a process by which a firm can obtain the use of a certain fixed assets for which it must pay a series of contractual, periodic, tax deductible payments.

Difination

Lessee: The lessee is the receiver of the services or the assets under the lease contract

Lessor : The lessor is the owner of the assets.

Tenancy : The relationship between the tenant and the landlord is called a tenancy.

Rent : Rent is a requirement of leases in common law jurisdiction.

Terms

Leasing is a contract whereby someone is using equipment belonging to someone else. The user (the lessee) regularly pays specific amounts to the owner (the lessor). An important aspect of leasing is that the use of the equipment is separate from its ownership. The leasing arrangements benefit both parties – the lessee can generate additional revenues from the use of the equipment and the owner receives an income while defending the property as guarantee.

Leasing is not a loan

To pay for the use of equipment.

To benefit from the expense, thus reducing the company’s income tax.

To establish leases according to our capacity to pay.

To establish the term to the lease according to the equipment’s service life.

To keep the capital for the cash flow

Purpose of leasing

Operating Lease Operating leases, also called service leases, are

agreements between two parties in which one provides rent to the other for using an asset. In an operating lease, the borrower uses an asset for only a fixed portion of the assets life. The owner of the asset is responsible for all maintenance costs and other operating costs associated with the leased asset.

Types of Lease

Capital Lease Capital leases, also called finance leases, are

those in which the borrower has full control over the use of the asset(s) during its lease period, is responsible for all maintenance and other associated costs and is directly affected by its associated advantages and disadvantages.

Sale and Leaseback Arrangement A sale and leaseback arrangement is a type

of lease in which one party purchases property, equipment or land from another party and immediately leases it to the selling party under specific terms. The seller could be an individual investor, a limited partnership, an industrial firm, a leasing company, a commercial bank or an insurance company.

For businesses, leasing property may have significant financial benefits:

Leasing is less capital-intensive than purchasing, so if a business has restriction on its capital, it can grow more rapidly by leasing property than by purchasing property.

Depreciation of capital assets has different tax and financial reporting treatment from ordinary business expenses. Lease payments are considered expenses rather than assets, which can be set off against revenue when calculating taxable profit at the end of the relevant tax accounting period

Advantages of the Leasing

For businesses, leasing property may have significant drawbacks:

A net lease may shift some or all of the maintenance costs onto the tenant.

If the business is successful, lessors may demand higher rental payments when leases come up for renewal. If the value of the business is tied to the use of that particular property, the lessor has a significant advantage over the lessee in negotiations.

Disadvantages