Leasing Process, Advantages and Disadvantages to lessor & Lessee

The important activities of a Leasing Process can be summarized as below:

 Leasing process

(1) Lease Selection –

• The leasing process starts when the lessee enters into a leasing contract with the lessor.
• Lessee approaches the Manufacturers and Suppliers, gathers all details about the required asset (design, specifications, price, installation, warranty, servicing etc.) and then takes a decision on the required asset and the supplier
• The lessee then goes to the leasing company or broker (lessor) and a lease agreement is broadly negotiated and finalized between them.

 

(2) Order, Delivery and payment – 

In the next step of leasing process:

• The Lessor orders the required asset to the selected manufacturer of asset to be leased on behalf of the lessee.
• The manufacturer delivers the asset at the site of the lessee
• The lessee inspects the delivery and gives a notice of acceptance to the lessor if he is satisfied with the asset.

 

(3) Lease contract –

The most important part of the leasing process is the lease contract:

• Both the parties sign a lease agreement setting out the details of the terms of contract. It usually ranges from 3 to 5 years.
• It may be fully pay out lease or nominal rentals may be charged.

 

(4) Lease Period –

• Regular lease rental are paid by the lessee.
• Lessee ensures proper maintenance of asset.
• Lessee is entitled to warranties and after sale services from the lessor.
• At the end of the lease period the lessee may either renew the lease or terminate it or buy the asset.

 

(5) Lease Agreement –

The lease agreement consists of all the obligations of the lessor and lessee. It includes:

• The basic lease period during which lease is irrevocable
• The time and amount of periodic rental payments to be paid
• Details of options to renew the asset or purchase it or in absence of such an option the lessor takes the possession of the asset
• Details regarding the responsibility of payment of cost of maintenance and repairs, taxes, insurance and other expenses
• In a Net Lease Agreement – Lessee pays all the above costs
• In a Maintenance lease agreement – Lessor pays all the costs

Advantages of Leasing 

To the lessee 

• It is a simple agreement, free from cumbersome procedures therefore, it saves time and effort.
• It helps in financing of capital goods like land, building, machinery etc. with small initial investment.
• It acts as an additional source of finance and helps the lessee to expand his business operations
• It is a cheaper source of finance than other alternatives
• A lease agreement allows for flexibility in rental payments and negotiation of agreement terms at the convenience of the lessee
• The lessee receives tax benefits
• Risk of Obsolescence of asset is avoided as the lessee has the option the replace the asset with the latest one.

To the Lessor 

• The lessor is fully secure as in case of default by lessee, the lessor can take back the asset as the ownership lies with him
• The lessor can lease assets with high depreciation rate and enjoy tax benefits by way of depreciation
• It is a highly profitable business, the lessor usually pays less interest on borrowings than what he charges from the lessee as premium
• The ultimate return on initial investment is very high

Disadvantages of Leasing 

To the Lessee 

• He has the right of use only there is no ownership, he cannot make major changes or alterations to the asset
• It is a costly option
• The lease may be canceled due to poor financial position of the lessee
• The lessee losses the residual value of the asset
• The lessee losses out on tax benefits due to depreciation and investment benefits if any
• The lessee may be subjected to penalties, if he terminates the contract before the expiry of lease period

 

To the Lessor 

• The lessor has to bear high risk of obsolesce of asset
• The lessor may not be able to charge sufficient rental due to enormous competition in the leasing market
• The lessor does not get the advantage of increase in price of asset due to price level changes as he can charge only fixed rentals during the entire lease period
• The lessor does not get any subsidies related to the asset as a usual buyer (user) would get
• It is a long term investment as the total cost of the asset is covered during the lease period which usually ranges from 3 to 5 years

 

More on Leasing: Leasing Introduction, Types of Lease