Leasing - those who have the choice are spoiled for choice

Not all leasing is the same - there are big differences between financial and operating leases!

Since the booming 80s of the last century, leasing has increasingly become the preferred financing option for all conceivable consumer goods. The name leasing, which comes from the English, literally means "rent". However, the English word rent also means "hire". The opinion has become established that leasing is basically installment plan. However, this is not the case.

Financial leasing

This is probably the most common type of leasing. The leased asset is owned by the lessee and is capitalized as a fixed asset. On the date of capitalization, the corresponding financing, i.e. the liability to the lessor, is entered on the liabilities side. Financial leasing can be with or without residual value. This means that a residual value can be agreed at the end of the lease term, which means that the monthly payments are generally lower during the lease term.

The lessee is therefore the external owner and proprietor. However, the lessor generally requires collateral for this loan in the form of a reservation of title in the contract or other corresponding collateral.  The payments and costs appear in the financial result, summarized in a monthly amount in the financial result, i.e. below the lessee's EBIT (in contrast to operational leasing, see below). The installments are usually of a decreasing nature, but can also be calculated to be the same over the lease term (purely mathematical refinement, has no influence towards the end of the lease term). The risk associated with the leased assets can be variable, but is usually the responsibility of the lessee.

A final peculiarity is the often variable underlying interest rate. However, it is also possible to fix a fixed interest rate for the entire term. Depending on the interest rate curve on the market, the fixed interest rate is usually higher than the variable rate, whereas the latter is of course exposed to the risk of a rise in interest rates (which, if 100% hedged, results in the higher fixed rate).

Even if it is agreed in the leasing contract that the lessor is the owner of the leased object, the leased objects must be capitalized in the balance sheet as the property of the lessee! Legally problematic at first glance, as one and the same object cannot belong to two parties at the same time, but financially unproblematic in terms of accounting, as the corresponding liability to the lessor is also posted for the lessee.

Operational leasing

This form of lease is a pure rental in which the leased asset is legally owned by the lessor. Consequently, only the lessor capitalizes the assets and the lessee uses them. As a rule, the lessee is also responsible for the maintenance and insurance of the leased assets.

The installments are usually always fixed throughout the lease term and the installments appear in the lessee's operating result, just like the rent for offices or warehouses, for example. In other words, above EBIT. This is particularly important if the focus in the income statement is on the operating result and the financial result plays a separate role.

At the end of the contract term, the lessee has the right to choose whether or not to take over the leased assets. The price for this may not be fixed in advance but must correspond to the future market price.

IFRS specifics

IFRS places very clear requirements on the qualification of an operational lease. If only one of the following points is not met, the lease is classified as a financial lease, regardless of the title in the lease agreement.  Qualification points Operational Lease according to IFRS If only one of the following 9 questions can be answered in the affirmative, the lease is a financial lease!

1.  Are substantially all risks transferred to the lessee?
2. Is ownership automatically transferred to the lessee at the end of the lease?
3. Is the duration of the lease longer than 75% of the depreciation period of the leased assets?
4. Does the contract contain a purchase clause at the end of the lease term, in which the lessee has no option?
5. Is the present value of the lease payments more than 90% of the purchase price of the leased assets? In other words, has no residual value been agreed or a residual value corresponding to less than 10% of the purchase price?
6. Does the lessee have to make significant changes in order to be able to use the leased assets?
7. Are there any agreements that losses incurred by the lessor (other than any losses resulting from the lessee's insolvency) must be borne by the lessee?
8. Is there a "fair value guarantee" under which the residual value is fixed?
9. Is there an agreement for a follow-up contract where the rent is clearly below the market rent?

By and large, these nine points reflect tenancy law, which also applies to ordinary apartments. It is therefore clear that an operational lease is clearly a lease and not a fixed installment plan.

Summary

Whether an asset should be leased or not depends on many factors. For example, how a liquidity bottleneck is to be avoided (or is there too much liquidity that can be put to better use than in securities), which accounting standard is used, do you want to buy the asset outright or not, etc. pp. We will be happy to help you answer these and other questions; the result will have a lasting impact on your success over the coming years.