Leasing

LEASING Prof. Sarbesh Mishra NICMAR’s CISC Hyderabad – 84.

12/08/2008

1

Concept o

o

o

o

Arrangement between two parties, the leasing company or lessor and the user or lessee. The lessor buys the capital equipment for the use of the lessee for an agreed period of time in return for the payment of the rent. The rentals are pre-determined and payable at fixed interval of time. Lessor remains the owner of equipment.

12/08/2008

2

Leasing as Source of Finance Leasing company finance for: o Modernization of Business o Balancing equipment o Cars, scooters and other vehicles and durables o Items entitled to 100% of 50% depreciation o Assets which are not being financed by FIs. 12/08/2008

3

Types of Lease o o o o o

Financial Lease Operating Lease Leverage Lease Sale and Lease back Cross Border Lease

12/08/2008

4

Advantages of Lease o o o o o o o

Permit alternative use of funds Faster and cheaper credit Flexibility Facilitate additional borrowing Protection against obsolescence Hundred percent financing Boon to small firm

12/08/2008

5

Financial Lease o o

o

Irrevocable and non-cancelable contractual agreement. Lessee uses the asset exclusively for a relatively longer period, maintains it, insures and avails of the after sales service and warranty backing it. Lessee bears the risk of obsolescence as it stands committed to pay for entire lease period.

12/08/2008

6

Contd…. o

o

Financial lease with the purchase option, where at the end of pre-determined period, the lessee has the option to buy the equipment / asset at a pre-determined value. The leasing company / lessor charges nominal service charges to lessee towards legal and other costs.

12/08/2008

7

Operating Lease o

o

o

Contractual period between lessor and lessee is less than full economic life of equipment i.e. short-term in nature. The lease is terminable by giving stipulated notice as per the agreement. The risk of obsolescence is enforced on the lessor who will also bear the cost of maintenance and other relevant expenses.

12/08/2008

8

Leverage Lease o o

o

Arrangement for assets of huge capital outlay. Parties involved are (a) Lessor (Max. 20 – 50% stake) (b) Lessee (As in operational lease) (c) Lenders (Rest stake holders) Lessor acquires the asset with maximum contribution upto 50% and rest is financed by lenders secured by mortgage of the asset besides assignment of leased rental payments.

12/08/2008

9

Sale and Lease Back o

o

o

Arrangement where a firm which has an asset sells it to leasing company / lessor and gets it back on lease. Lessee gets the sale price in the market value and gets the right to use the asset during the lease period. Title of the asset remains with the lessor. Lease back agreements are on net basis i.e. lessee pays the maintenance, property tax and insurance premium.

12/08/2008

10

Cross Border Lease o

o

o

It is international leasing and is referred otherwise as transactional leasing. Relates to lease transaction between different a lessor and lessee domiciled in different countries. Illustration:- Leasing company in USA makes available Air Bus on lease to Air India.

12/08/2008

11

Disadvantages of Leasing o

o

o

Lease rentals are payable soon after entering into lease agreement while in new projects cash generation may start after gestation period. The cost of financing is higher than debt financing. If the lessee defaults in payment, lessor would suffer a loss.

12/08/2008

12

Legal Aspects of Leasing o o

o

Under Section 148 of Indian Contract Act leasing is executed. The lessor has the duty to deliver the asset to lessee, legally authorizes lessee to use the asset. The lessee has the obligation to pay the lease rentals as per lease agreement, to protect lessor’s title, to take reasonable care of the asset, and to return the leased asset on the expiry of lease period.

12/08/2008

13

Income Tax Provisions Relating to Leasing o

o

o

The lessee can claim lease rentals as tax deductible expenses. The lease rentals received by lessor are taxable under the head of “Profits and Gains of Business or Profession” The lessor can claim investment allowance and depreciation on the investment made in leased assets.

12/08/2008

14

Accounting Treatment of Lease o

o

o

The leased asset is shown on the balance sheet of the lessor. Depreciation and other tax shields associated with leased asset are claimed by the lessor. The entire lease rental is treated as an income in the books of the lessor and expense in the books of lessee.

12/08/2008

15

Problems of Leasing o o o o o

Unhealthy Competition Lack of qualified personnel Tax Considerations Stamp Duty Delayed Payments and Bad Debts

12/08/2008

16

Growth of Leasing Industry The growth of equipment leasing is of recent origin and is volume in India is quite modest. Lease financing organisations in India include many private sector non-banking financial companies, some private sector manufacturing companies, Infrastructure Leasing and Financial Services Limited (IL&FS), ICICI Bank, Industrial Reconstruction Bank of India (IRBI), IFC, LIC, GIC, HDFC Bank, State Industrial Investment Corporations (SIICs), and many other organisations. 12/08/2008

17