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Difference Between Finance Lease and

Operating Lease

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Anshuman Singh
Senior Executive - Content

Updated on Jun 11, 2024 13:28 IST

The main difference between finance lease and

operating lease is that a finance lease is a long-term
concept in which the ownership of the asset is
transferred to the lessee (owner of an asset that is
leased or rented). On the other hand, an operating lease
is a short-term concept in which the ownership of the
asset is not transferred and remains with the lessor (legal
owner of the asset).

Understanding the distinction between financial lease

and operating lease is crucial for businesses seeking to
acquire assets through leasing. These two leasing
options offer distinct benefits and implications,
influencing financial strategies and operational decisions.
A finance lease entails lessees assuming near-ownership
responsibilities, while an operating lease provides more
flexibility and less long-term commitment. Exploring
these differences empowers businesses to select the
most suitable leasing arrangement based on their
specific needs, financial goals, and risk tolerance.

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Table of content

Difference between finance lease and operating

lease

What is a finance lease?

What is an operating lease?

Key differences between finance lease and

operating lease

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Difference between Finance Lease and Operating
Lease

The terms “finance lease” and “operating lease” are so

frequently confused that the key difference between the
two is easily missed. So, to understand the difference
between finance lease and operating lease better, let’s
explore it in a tabular format.

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Benchmark Finance Lease Operating Lease

A commercial
A commercial
contract in which the
contract in which the
lessor allows the
lessor allows the
lessee to use an
What is it? lessee to use an
asset in favour of
asset in favour of
regular payments for
regular payments for
a usually short
a usually long period.
period.

It is a long-term It is a short-term
Duration
contract contract

Ownership is
transferred to the Ownership remains
Owner lessee (owner of an with the lessor (legal
asset that is rented or owner of the asset).
leased).

This lease is
Capital lease Rental lease
also called

The risk of
obsolescence
Lessee Lessor
lies on the
part of the

Who takes
care of or
Lessee Lessor
maintains the
asset?

Can only be done on

Cancellation Can be done at any
the occurrence of a
of the lease time.
specific event.

In this lease,
is the bargain Yes. In this lease, the
No. In this lease, no
purchase or purchasing option is
such option is given.
purchasing given.
option given?

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What is a Finance Lease?

Finance lease definition: A finance lease is a long-term

concept in which the ownership of the asset is
transferred to the lessee (owner of an asset that is
leased or rented).

A finance lease is a commercial lease in which the

lessee receives almost all of the risks and rewards of
fixed asset ownership. In a finance lease, the lessee can
purchase the asset for a price less than the asset’s fair
market value.

To understand finance lease better, let’s go through an

example. Suppose there are two people, A and B.
Person A purchased a new car, and after some days, B
asks him to rent the car for five years (finance lease).
The terms of the finance lease will be something like this:

The term will be decided as the useful life span of the

asset, say five years,

Then the rental amount will be decided, and all the

risk/profit will belong to person B. (In this case, the
damages, insurance, etc.)

Person B pays the rental amount; at the end of the

lease period, he can pay a balloon payment and keep
the vehicle.

You can also explore: Difference Between Void and

Voidable Contract

What is an Operating Lease?

Operating lease definition: An operating lease is a

short-term concept in which the ownership of the asset is
not transferred and remains with the lessor (legal owner
of the asset).

In simple terms, in an operating lease contract, the right

to use assets is given, but the right of ownership of an
asset is not given. This lease is highly beneficial for
individuals or businesses, mainly when a company does
not require machines or assets for an extended period or
when they want to replace their assets. In an operating
lease, the lessee does not have the choice to purchase
the asset for a price less than the asset’s fair market
value.

To understand finance lease better, let’s go through an

example. Suppose there are two people, A and B.
Person A purchased a new car, and after some days, B
asks him to rent the car for one month (operating lease).
The terms of the operating lease will be something like
this:

Person B can use the vehicle for the duration of the

agreement, paying monthly rental fees. (Note: These
payments are not the same as the vehicle’s total
value, as with a finance lease.)

The risks remain with person A, and the vehicle will be

returned to them at the end of the term.

You can also explore: Difference Between Forward

and Future Contract

Key Differences Between a Finance Lease and

Operating Lease

Here are the key differences between finance lease and

operating lease:

A finance lease is a long-term contract, whereas an

operating lease is a short-term contract.

In the finance lease, the ownership of the asset is

transferred to the lessee. But, it not the case in the
operating lease. Open
in app
In the finance lease, the lessee takes care of or
maintains the asset, whereas, in the operating lease,
the lessor takes care of or maintains the asset.

In the finance lease, the lessee can buy the asset for a
price less than the asset’s fair market value. On the
other hand, in the operating lease, the lessee does not
get a choice to buy the asset for a price less than the
asset’s fair market value.

Conclusion

The main difference between finance lease and

operating lease is that a finance lease is a long-term
concept in which the ownership of the asset is
transferred to the lessee (owner of an asset that is
leased or rented). On the other hand, an operating lease
is a short-term concept in which the ownership of the
asset is not transferred and remains with the lessor (legal
owner of the asset).

I hope that now that you know the difference between

finance lease and operating lease, you will not get
confused between these terms.

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FAQs

What is the difference between financial lease and

operating lease?

Regarding the difference between financial lease

and operating lease, in which one of these two does
the lessee get a choice to buy the asset for a price
less than the asset's fair market value?

Regarding the difference between financial lease

and operating lease, in which one of these two does
the lessee take care of or maintain the asset?

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About the Author

Anshuman Singh
Senior Executive - Content

Anshuman Singh is an accomplished content writer with over

three years of experience specializing in cybersecurity, cloud
computing, networking, and software testing. Known for his
clear, concise, and informative wr... Read Full Bio

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