Lease Finance

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Lease Finance


<p>INDEX</p> <p>SR NO. 1 2 3 5 5</p> <p>TOPIC Introduction &amp; Definition Finance Lease Importance Of Lease Financing Essential Elements Of Leasing Types Of Lease Agreement a) Finance Lease b) Operating Lease c) Sale &amp; Lease Back d)Leveraged Lease e) Direct Lease</p> <p>PAGE NO. 8 9 10 11 13 14 15 18 20 21 24 25 26 27 28 29 30 33 34 361</p> <p>6 7 8 9 10 11 12 13 14 15</p> <p>Features Of Financials Service Advantages &amp; Dis-advantages Of Leasing Factors affecting Leasing Decisions Difficulties Faced by Leasing Companies in India LEASING IN INDIA Difference Between Lease Financing &amp; Hire Purchase Evolution of Leasing Evolution of Hire-purchase Leasing and Hire-purchase: A vanishing distinction Lessors</p> <p>16 17 18 19 20 21 22 23 24 25 26 27 28 29 30 31 32 33 34 35</p> <p>Specialized leasing companies Banks and bank-subsidiaries Specialized Financial institutions One-off lessors Manufacturer-lessors The lessees Sources of Law on leasing and hire-purchase Leasing and Hire-purchase Requirements of a valid lease or hire-purchase Durability &amp; Movability and severability Identifiability Obligations relating to the goods What Is the Concept of Leveraged Leasing? Underwriting A Practical Look At Lease Document Some Terms History Summary Glossary Reference</p> <p>37 38 39 40 41 42 44 45 46 47 48 49 50 52 54 60 63 64 65 66</p> <p>2</p> <p>3</p> <p>Introduction</p> <p>In order to start and sustain a business one needs finance. In the unit one on feasibility study, you have already seen the process of estimating financial requirements. The process involved (a) making a list of all the assets iNTRODUCTION(b) identifying the sources of supply (c) estimating the cost of acquisition when the assets are to be acquired on outright basis. Then investment requirements as well as entrepreneurs fear will increase. To scare away the entrepreneurs fear, the emphasis should be given to resources and not to the ownership. In this unit we intend to familiarize you with some important financial innovations i.e., leasing, hire purchase and factoring.</p> <p>Definition: Leasing is a contractual arrangement , where The owner (Lessor) of the Asset(Equipment) Transfers the possession / right to use the Asset(Equipment) to another(Lessee) For an agreed period of time in return for rental.</p> <p>4</p> <p>\</p> <p>Finance LeaseA lease transaction is a commercial arrangement whereby an equipment owner or Manufacturer conveys to the equipment user the right to use the equipment in return for a rental. In other words, lease is a contract between the owner of an asset (the lessor) and its user (the lessee) for the right to use the asset during a specified period in return for a mutually agreed periodic payment (the lease rentals). The important feature of a lease contract is separation of the ownership of the asset from its usage.Lease financing is based on the observation made by Donald B. Grant: Why own a cow when the milk is so cheap? All you really need is milk and not the cow. Long-term, non-cancellable lease contracts are known as financial leases. To record a lease as a capital lease, the lease must be noncancelable. One or more of four criteria must be met: 1. Transfers ownership to the lessee. 2. Contains a bargain-purchase option. 3. Lease term is equal to or greater than 75 percent of the estimated economic life of the leased property. 4. The present value of the minimum lease payments (excluding executor costs) equals or exceeds 90 percent of the fair value of the leased property.</p> <p>5</p> <p>Importance Of Lease Financing</p> <p>Leasing industry plays an important role in the economic development of a country by providing money incentives to lessee. The lessee does not have to pay the cost of asset at the time of signing the contract of leases. Leasing contracts are more flexible so lessees can structure the leasing contracts according to their needs for finance. The lessee can also pass on the risk of obsolescence to the lessor by acquiring those appliances, which have high technological obsolescence. To day, most of us are familiar with leases of houses, apartments, offices, etc.</p> <p>6</p> <p>Essential Elements of LeasingParties to a Lease Contract: Essentially two parties Lessor is the owner of the asset that is being Leased. Lessee is the receiver of the services of the asset under a Lease contract. Lessor and Lessee can be Individual or legally recognised party. The lessor is either the assets manufacturer or an independent leasing company Lease broker big ticket Leases use him. Major Players in Lease Market: oBanks- Indian &amp; Foreign /FIs subsidiaries of Banks/FIs, NBFCs Asset Subject matter of Leasing contract; Automobiles, Plant &amp; Machinery, Equipments, Land &amp; building, Factory, a running business, aircraft, Ships, etc. Ownership remains with the Lessor Use - of the asset is allowed to the Lessee. Lease Term Primary /secondary Lease Term.</p> <p>7</p> <p> Lease Rentals is the consideration for the lease transaction. So structured to recover the investment cost, during agreed period.</p> <p>8</p> <p>Types Of Lease Agreements</p> <p>Lease agreements are basically of two types. They are (a) Financial lease and (b) Operatinglease. The other variations in lease agreements are (c) Sale and lease back (d) Leveraged leasing and (e) Direct leasing.</p> <p>9</p> <p>1. FINANCIAL LEASELong-term, non-cancellable lease contracts are known as financial leases. The essential point of financial lease agreement is that it contains a condition whereby the lessor agrees to transfer the title for the asset at the end of the lease period at a nominal cost. At lease it must give an option to the lessee to purchase the asset he has used at the expiry of the lease. Under this lease the lessor recovers 90% of the fair value of the asset as lease rentals and the lease period is 75% of the economic life of the asset. The lease agreement is irrevocable. Practically all the risks incidental to the asset ownership and all the benefits arising there from are transferred to the lessee who bears the cost of maintenance, insurance and repairs. Only title deeds remain with the lessor. Financial lease is also known as capital lease. In India, financial leases are very popular with high-cost and high technology equipment.</p> <p>10</p> <p>2. OPERATING LEASEAn operating lease stands in contrast to the financial lease in almost all aspects. This lease agreement gives to the lessee only a limited right to use the asset. The lessor is responsible for the upkeep and maintenance of the asset. The lessee is not given any uplift to purchase the asset at the end of the lease period. Normally the lease is for a short period and even otherwise is revocable at a short notice. Mines, Computers hardware, trucks and automobiles are found suitable for operating lease because the rate of obsolescence is very high in this kind of assets. Key Words Explain the meaning of long term, nominal cost, and economic life</p> <p>11</p> <p>Differentiation Between Operating lease and Financial Lease</p> <p>BASIS</p> <p>Financial Lease</p> <p>Operating leas</p> <p>Meaning</p> <p>Long-term,</p> <p>non-cancellable</p> <p>lease</p> <p>A Lease which is a short term one and one which does not cover the useful life on an asset is called an operating lease.</p> <p>contracts are known as financial leases.</p> <p>Form</p> <p>In this type of lease, money is provide by lessor and the asset is purchase form outside</p> <p>The lessor is carrying on business of leasing and he holds such assets or is a manufacturer of such asset leases its asset</p> <p>Maintenance</p> <p>The lessee undertakes the maintenance of the asset, paying insurance premium ect.</p> <p>In this type of lease, repairs and maintenance is done by the lessor.</p> <p>Risk Obsolescence</p> <p>of</p> <p>In this types of lease, the lessee bears the risk obsolescence, so far as he</p> <p>In this types of lease, the lessor bears the risk obsolescence during the</p> <p>uses the asset.</p> <p>period of the lease.</p> <p>12</p> <p>BASIS</p> <p>Financial Lease Period of lease whole useful life of asset.</p> <p>Operating leas Period of lease for shot time.</p> <p>Period of Lease</p> <p>Option to Buy</p> <p>Option to buy for lessee.</p> <p>Period of lease for shot time.</p> <p>Accounting Entries</p> <p>According</p> <p>to</p> <p>the</p> <p>international</p> <p>No entry is made in the balance sheet of the lassee under this type of lease, because lease is in the form of a hired asset</p> <p>accounting standard-17, an entery iis made in the balance sheet of the lessee on both the side</p> <p>13</p> <p>3. Sale and Lease back:It is a sub-part of finance lease. Under this, the owner of an asset sells the asset to a party (the buyer), who in turn leases back the same asset to the owner in consideration of lease rentals. However, under this arrangement, the assets are not physically exchanged but it all happens in records only. This is nothing but a paper transaction. Sale and lease back transaction is suitable for those assets, which are not subjected depreciation but appreciation, say land. The advantage of this method is that the lessee can satisfy himself completely regarding the quality of the asset and after possession of the asset convert the sale into a lease arrangement. The sale and lease back transaction can be expressed with the help of the following figure. The owner(Lessee) of the equipment sells it to a Leasing company (Lessor). The Lessor, leases the equipment back to the Lessee. Under this arrangement, the assets are not physically exchanged but it all happens in records only. The seller assumes the role of a lessee and the buyer assumes the role of a lessor. The seller gets the agreed selling price and the buyer gets the lease rentals. Two sets of cash flows occur: The lessee receives cash today from the sale.14</p> <p> The lessee agrees to make periodic lease payments, thereby retaining the use of the asset.</p> <p>15</p> <p>4. Leveraged Lease:Under leveraged leasing arrangement, a third party is involved beside lessor and lessee. The lessor borrows a part of the purchase cost (say 80%) of the asset from the third party i.e., lender and the asset so purchased is held as security against the loan. The lender is paid off from the lease rentals directly by the lessee and the surplus after meeting the claims of the lender goes to the lessor. The lessor, the owner of the asset is entitled to depreciation allowance associated with the asset. 3 parties to the transaction. Lessor ( Equity investor) Lender Lessee. The Leasing company (Equity investor) buys the equipment, through substantial borrowing, and with full recourse to the Lessee and without recourse to it. The Lender obtains an assignment of the Lease and a first mortgage of the equipment.</p> <p>16</p> <p>5. Direct Lease</p> <p> Under direct leasing, a firm acquires the right to use an asset from the manufacturer directly. The ownership of the asset leased out remains with the manufacturer itself. Bipartite Lease Equipment supplier-cum-Lessor and Lessee. Tripartite Lease (Sales-aid-Lease) Equipment supplier, Lessor and Lessee.</p> <p>17</p> <p>Single Investor Lease Only two parties Lessor and Lessee. Leasing company (Lessor) funds the entire investment, having appropriate mix of Equity-cum-Debt. Finance raised by the Lessor, is without recourse to the Lessee</p> <p>Domestic Lease and International Lease</p> <p> When a lease agreement is made between citizen of same countries, it is called Domestic lease When a lease agreement is made between citizen of different countries, it is called International lease</p> <p>18</p> <p>19</p> <p>Features of Financial ServiceA Financial Lease is structured to include: The Lessee selects the equipment meeting his requirement The Lessee negotiates the price, delivery schedule, installation, warranties, maintenance, etc. The Lessee informs the above details and Lessor makes the payment directly to the Seller(manufacturer /distributor). The equipment is directly delivered to the Lessee by seller. The Lessee enjoys exclusive and peaceful possession and use of the equipment. Enters in to the Lease agreement with Lessor. The Lessor pays the amount directly to Seller(Manufacturer/supplier).</p> <p>20</p> <p>Advantages of Leasing Provides full Finance Flexible Saves from Recurring cost of finance Absence of restrictions Tax Benefits Increases the capacity to borrow Useful in case of fast changing technology Faster and Cheaper credit</p> <p>Limitations of Leasing No Benefit of Residual Value High cost of leaseing No benefit of ownership Not Flexible Disputes21</p> <p>Factors affecting Leasing Decisions Availability of cash Effect on Borrowing Capacity Shifting the Risk of Obsolescence Convenient Arrangement Less Restrictions on Firm Salvage Value Tax Benefits Leas Expenses</p> <p>Institutions In the field of Leaseing. All India Financial Institutions Leasing Companies Banks Financial Companies Industrial Groups having Leasing Companies</p> <p>22</p> <p>Difficulties Faced by Leasing Companies in India</p> <p> Competition Lack of Trained Employees Proportion of Debt-Equity not maintained Lack of Provision for Depreciation Low Investment of Promoters Shortage of Funds Inefficiency of Management Government Attitude</p> <p>23</p> <p>LEASING IN INDIA Leasing has grown by leaps and bounds in the eighties but it is estimated that hardly 1% of the industrial investment in India is covered by the lease finance, as against 40% in USA and 30% in UK and 10% in Japan The prospects of leasing in India aregood due to growing investment needs and scarcity of funds with public financialinstitutions. This type of lease finances is particularly suitable in India where a largenumber of small companies have emerged more recently. Leasing in the sphere ofland and building has been in existence in India for a long time, while equipment leasing has become very common in the recent times.</p> <p>24</p> <p>DIFFERENCE BETWEEN LEASE FINANCING AND HIRE PURCHASE</p> <p>BASIS</p> <p>LEASE FINANCING</p> <p>HIRE PURCHASE</p> <p>Meaning</p> <p>A lease transaction is a commercial arrangement, whereby an equipment owner or manufacturer conveys to the equipment user the right to use the equipment in return for a rental.</p> <p>Hire purchase is a type of instalment credit under which the hire purchaser agrees to take the goods on hire at a stated rental, which is inclusive of the repayment of principal as well as interest, with an option to purchase.</p> <p>Option to user</p> <p>No option is provided to the lessee (user) to purchase the goods.</p> <p>Option is provided to the hirer (user).</p> <p>Nature expenditure</p> <p>of</p> <p>Lease rentals paid by the lessee are entirely revenue expenditure of the lessee.</p> <p>Only interest element included in the HP instalments is revenue expenditure by nature. HP instalments comprise of 3 elements (1) normal trading profit (2) finance charge and (3) recovery of cost of goods/assets.</p> <p>Components</p> <p>Lease rentals comprise of 2 elements (1) finance charge and (2) capital recovery.</p> <p>25</p> <p>Evolution of Leasing Leasing activity was initiated in India in 1973. The first leasing company of India, named First Leasing Company of India Ltd. was set up in that year by Farouk Irani, with industrialist A...</p>


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