Leasing Process, Advantages and Disadvantages to lessor & Lessee
The important activities of a Leasing Process can be summarized as below:
(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