4 Types of Financial Leasing

Before knowing the types of finance leases, you have to know the definition of what is financial leasing. This is the procedure within accounting that companies use when acquiring assets with structured payments over a long period of time.

To give the proper definition, the financial leasing it can be expressed as the agreement where the lessor receives lease payments from the lessee to cover the costs of a property. The landlord has the responsibility for maintenance, taxes and insurance.

A finance lease is similar to a direct purchase transaction that has been financed by a term loan in that payments are made on a monthly basis. However, unlike a full purchase transaction in which the lessee does not present the obligated balance as debt, it shows the payments as expenses and retains title to the asset.

During the period of a lease, the finance company is considered the legal owner of the asset. Leasing offers a number of benefits that can be used to attract customers. Among the main benefits are:

• The payment schedules are more flexible than loan contracts.
• The after-tax costs are lower because the tax rates are different for the landlord and the tenant.
• The lease involves the 100% financing of the asset price.
• For an operating lease, the business will create an expense rather than a liability, allowing it to obtain financial financing, often referred to as "off-balance sheet financing."

On the other hand, each and every one of the contracts is included in one of the 4types of finance leases that exist. We describe them below

4 types of financial leasing

Capital lease

The capital lease is when a agreement through a long-term contract that is not cancellable. The lessee or the client is obliged to pay the rent of the lease until the expiration of the period thereof. Generally, the lease corresponds to the useful life of the asset in question.

This is a long-term lease in which the lessee must record the leased item as an asset on your balance sheet and record the present value of the lease payments as debt.

In addition, the lessor must record the lease as a sale on its own balance sheet. This type of lease can last for several years and cannot be canceled. It is treated as a sale for tax purposes.

Operating lease

Also known as the open lease, it complies with a small difference when capital lease, since in an operating lease, the lessee uses the asset for a period of time specific. The lessor assumes the risk of obsolescence and incidental risks. Also, there is an option for either party to terminate the lease after giving notice.

In this type of leasing, the lessor assumes all the expenses, also the lessor will not be able to account of the total cost of the asset and specialized services are provided by the lessor.

This type of lease is preferred when the asset is likely to become obsolete.

Leveraged lease

It is one of the leases that has become more popular in recent years and is known as leveraged or unlevered lease. It's mostly used when financing large assets like rail equipment, heavy machinery, airplanes, and oil rigs.

Unlike all other types of leases out there, there are three basic elements to entering into a leveraged lease agreement: the landlord, the tenant and the lender.

The value of the leased asset can be so large that it may be impossible for the lessor to finance. Therefore, the lender or one more financier is involved who will take care of the leased asset.

Sale and lease

In a sale and lease, a company that owns the asset sells it to the lessor. The lessor immediately pays for the asset, but leases it to the seller. Therefore, the seller of the asset becomes the lessee.

The asset remains with the seller who is a lessee, but ownership belongs to the lessor who is the buyer. This agreement is made so that the selling company obtains financing to manage the business together with the asset.

The owner company is required to make periodic rental payments to the landlord. This type of sale and lease lease is very beneficial to both parties. While the lessor gets tax benefits due to depreciation, the lessee has an immediate cash inflow that improves its liquidity position.

The sale and lease It has become very popular among companies which are in short-term liquidity crisis happening only in registries without physically exchanging assets.

The transaction is made on paper and is also suitable for assets subject to appreciation rather than depreciation, for example land or land.