LEASING- DEFINITION

■ A written agreement under which a property owner

allows a tenant to use the property for a specified
period of time and rent.

■ The lessee (person taking out a lease) agrees to pay a

number of fixed or flexible installments over an
agreed period to the lessor, who remains the owner of
the asset (item) throughout the period of the lease.
STEPS IN LEASING
 FEATURES
■ Leasing a product is similar to renting it
■ A contract lasts over a number of years,
usually between 2 and 10, depending on the
cost and usable life of the product.
■ Have the full use of a piece of equipment
without having to pay the full cost of the item
in one go.
 TYPES OF LEASING

Lease

Finance Sale and Leveraged Direct

Operating
lease Lease leasing leasing
lease
Back
a)FINANCIAL LEASE (CAPITAL LEASE)
■ Long-term, non-cancellable lease contracts are
known as financial leases.
■ The essential point - 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.
■ High cost high tech equip.
■ The lease agreement is irrevocable.

■ All the risks incidental to the asset ownership are

transferred to the lessee who bears
➢ the cost of maintenance,
➢ insurance and repairs.

■ Only title deeds remain with the lessor.

 b) OPERATING LEASE
■ Contrast to the financial lease
■ A 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.
 c) SALE AND LEASE BACK
■ Sub-part of finance lease
■ 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.
■ Under this arrangement, the assets are not
physically exchanged but it all happens in records
only.
■ Sale and lease back transaction is suitable for
those assets, which are not subjected
depreciation but appreciation, like land.

■ 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.
 d) LEVERAGED LEASING
■ A third party is involved beside lessor and lessee.
■ The lessor borrows a part of the purchase cost (say 8 0 %)
of the asset from the third party i.e., lender
■ 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.
 e) DIRECT LEASING
■ 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.
 ADVANTAGES of LEASING
■ No large outlay:
✓ The cost is spread over a number of years;
there is no need to pay the entire amount
upfront.
■ Security:
✓ The product is still owned by the leasing
company, meaning that they have better
security on finance.
■ Flexibility and convenience
✓ The lease agreement can be tailor-
made in respect of lease period
and lease rentals according to the
convenience and requirements of all
lessees
 DISADVANTAGES

1. No Ownership

2. Costly option - high interest rates, costlier

than straight buying

3. Long Term Expense

4. Maintenance

5. No working capital
 LEASE AGREEMENT
■ A document under which a landlord and tenant set forth the
rights and obligations of each party with respect to an
apartment, rental unit, or other real property owned by the
landlord and used by the tenant.

■ An instrument conveying the possession of real property for a

fixed period in consideration of the payment of rent.
Clauses in lease agreement
✓ Nature of the lease
✓ Description
✓ Delivery and redelivery
✓ Period
✓ Lease rentals
✓ Use
✓ Title
✓ Repairs and maintenance
✓ Alteration
Accounting aspect of Leasing
■ Operating lease :
■ Is capitalized in the book of lesser

■ Lease payments are treated as income of the

lessor and expense of the lessee

■ Depreciation of the assets should on the basis of

normal depreciation policy of the lessor for
similar assets
Financial lease
■ Must be capitalized in the books of lessee

a) At the time of inception leased asset is shown as an

asset of B/S of the lessee

■ Its VALUE = PV of the committed lease rentals

b)Payments are financial charges (expense in P/L) and

principal amount (deducted from lease payable in B/S)

C)Leased asset is depreciated in the books of lessee

 HIRE PURCHASE
■ Hire purchase is used to buy expensive items
which a person cannot afford to pay
outright: e.g. a car
■ A down payment is usually paid and the
balance is paid over several months (monthly
instalments).
 definition
According to hire purchase act of 1972.“An agreement
under which goods are let on hire under which the
hirer has an option to purchase them in accordance
with the terms of agreement and include an agreement
under which
■ Possession of goods is delivered by the owner thereof
to a person on the condition that such person pays the
amount in periodic payments
■ The property of the goods is to pass to such a person
on the payment of the last installment.
■ Such a person has a right to terminate the agreement
any time before the property so passes.
 Operation of HP transaction

■ The finance company purchases the equipment from the

supplier and gives it on hire.
■ The hirer is required to make a down payment of 20-25% of the
cost and pay the balance amount along with interest in advance
or arrears over a time period of 36-48months
■ Alternatively, instead of the down payment, the hirer as to
deposit an equal amount as a fixed deposit with the finance co
which provides entire finance on hire purchase terms, repayable
with interest in emi over 36-48 months.
 Continued…..

■ Deposits and the accumulated interest is returned to the hirer

upon the payment of last installment.
■ The interest on each hire purchase installment is computed on
the basis of flat rate of interest is applied to the declining
balance of original loan amount to determine the interest
component of installment for a given flat rate of interest, the
equivalent effective rate of interest is higher.
 Present industry order
■ SREI International Finance
■ Sundaram Finance
■ Cholamandalam Finance
■ Mahindra & Mahindra
■ GE Capital
■ Shriram Finance
■ Tata Finance
■ Countrywide Finance
■ Citicorp
 advantages
■ Allows you to buy more expensive items on
credit.
■ It may be easier to get a hire purchase
agreement than a loan or credit card.
 disadvantages
■ You do not own the goods until you have paid
off the full amount.
■ The hire purchase company can take back
goods if you do not keep up with the payments.
■ If goods are taken back you may still owe
money on them.
■ Hire purchase agreement can be more
expensive than a bank loan or credit card.
Accounting Treatment for Hire Purchase
■ The cost of the fixed asset is shown on the
balance sheet. The cost shown excludes any
interest paid.
■ The net book value is the cost less any
provision for depreciation.
■ In the profit and loss account the interest paid
during the year is shown, together with any
depreciation.
■ In the balance sheet the liability for future
payments is shown. The liability does not
include interest. The short term and long term
liabilities are shown separately.
 Process of Hire Purchase

■ The Dealer, contracts with finance co. for

financing his hire purchase deals.
■ The customer selects the goods for HP, and
dealer arranges for the complete set of
documents.
■ Down payment by customer on completion of
proposal form.
■ Dealer sends documents to finance co. with
request to purchase the goods, and accept the
HP transaction.
■ The finance co. signs the agreement and sends
copy along with EMI details to dealer.
■ Dealer delivers the goods to the customer,
property passes on to the finance co..
■ Hirer pays EMIs, and on last payment , the
ownership passes on to him, with loan
completion certificate by the finance co.
Eligibility to enter into HP transactions

■ People with a regular and stable income, and capacity to pay

installments from the current income
■ The person must be competent to enter into a contract . Minor
is not eligible
■ Foreigners and people not having permanent residence in the
country are disqualified for availing such forms of credit sales.
 GUIDELINES FOR BANKS AS FAR AS HIRE
PURCHASE BUSINESS IS CONCERNED

■ I. For the present, banks shall not themselves

undertake directly (i.e, departmentally) the
business of hire purchase
■ II. Banks which have set up subsidiaries (i.e, a
company in which it holds not less than 51% of
the shares ) for the business of equipment ,
leasing ,merchant banking etc, may undertake
the hire purchase business either through such a
subsidiary or through a separate subsidiary.
 Leasing v/s
■ Ownership of the property lies
with lessor, not transferred to
lessee.
■ Lessor, is entitled to claim
depreciation tax shield.
■ Capitalization of the asset is
done in the books of lessor
■ The entire lease payments are
eligible for tax computation in
the books of lessee
■ Lessor income declines as the
investment o/s in lease
declines
hire purchase
■ Ownership of the property is
transferred to the hirer on the
payment of the last payment.
■ The hirer is entitled to claim
depreciation tax shield.
■ Capitalization of asset is done
in the books of hirer.
■ Only the hire interest is
eligible for tax computation in
the books of the hirer.
■ Finance charges are allocated
to HP period equally
 Leasing
■ The lessor has the right to
claim the benefit of salvage
value
■ Leasing is used as a source
of finance, usually for
acquiring high cost assets
i.e., machinary, ships,
airplanes,etc
■ No down payment is
required for acquiring the
use of leased assets.
■ Leased assets are disclosed
by way of a note only in the
books of lessee
v/s hire purchase
■ The hirer can claim benefit
of salvage value as the
owner of the asset.
■ H.P is used as a source of
finance usually for
acquiring relatively low cost
assets i.e., automobiles,
office equip
■ Down payment is required
to be made for acquiring the
assets and a margin
maintained to the extent of
20-25%
■ Asset bought on hire
purchase will be shown as
asset
 Leasing
■ The lessee has to maintain
the leased asset in case of
financial lease, up keep is the
responsible of lessor in case
of operating lease.
■ Not suitable for low capital
enterprises
■ An asset given by a leasing
company is treated as fixed
asset of lessor
■ All receipts from lessee is
taken into lessor p&l a/c
v/s hire purchase
■ The hirer is responsible to
ensure the maintenance of
asset bought.
■ It is highly suitable for low
capital enterprises which
need to show a strong asset
position in their
balancesheet
■ The hire vendor normally
shows the asset let under HP
either as stock in trade or
receivables
■ Only interest portion is
taken into vendor p&l a/c