Introduction: Leasing: What is a finance lease?
In legal form a finance lease is just another lease - the legal ownership of the asset lies with the lessor and the lessee only has the right to use the asset.
However, in commercial terms, finance leasing is a method of providing finance. In other words, in economic substance a finance lease is a loan of money with the asset as security. The ‘economic’ ownership of the asset - the risks and rewards of ownership - lies with the lessee. In substance the finance lessee buys the asset with a loan from the finance lessor.
To put it another way, a finance lease may be viewed as an arrangement under which one person (the lessor) provides the money to buy an asset which is used by another (the lessee) in return for an interest charge. The lessor has security because they own the asset. The terms of the leasing arrangements aim to give the lessor a banker’s interest turn and no more or less - however good or bad the asset proves to be for the end user.
The banker’s turn may be very small (a few tens of basis points) for finance leases of very expensive assets (such as ships and aircraft), but several percentage points for leases of les expensive items (such as machine tools or photocopiers). The generally very small turn for larger leases reflects the generally very high credit rating of the lessees.
- the accounting definition of a finance lease is at BLM11000 onwards;
- the accounting treatment of finance leases is at BLM13000 onwards.