A Comparison between Capital Leases and Operating Leases
For owning long-term assets, business firms always prefer to lease over buying the asset.
An Operating Lease is a lease in which the lessee has the property at his disposal for only some part of its useful life. These leases are most commonly used for acquiring equipment for a short time only. In an operating lease, the lessee has only a right to use the property. He has no ownership over the property and must return the property to the lessor at the end of the lease period. The lease expense appears as an operating expense in the income statement. The balance sheet is unaffected.
In a Capital Lease, the lessee gets both the benefits and risks of ownership. A lease is considered to be a capital lease if it satisfies any of the following conditions:
(a) If the lease duration is more than 75% of the asset's estimated monetary life.
(b) If there is a transfer of ownership to the lessee on culmination of the lease.
(c) If an option to buy the asset at a reduced price, at the end of the lease term exists.
(d) If the present value of lease payments after discount is more than 90% of the asset's Fair Market Value.
Thus a capital lease when signed appears both as a liability and as an asset on the balance sheet. Each year, the business firm can claim depreciation on the asset and also subtract the interest expense factor of the lease fee. Expenses are recognized sooner in a capital lease than in an operating lease.
For any kind of leasing requirement either with an operating lease or a capital lease, you can contact the Graphic Savings Group.
An Operating Lease is a lease in which the lessee has the property at his disposal for only some part of its useful life. These leases are most commonly used for acquiring equipment for a short time only. In an operating lease, the lessee has only a right to use the property. He has no ownership over the property and must return the property to the lessor at the end of the lease period. The lease expense appears as an operating expense in the income statement. The balance sheet is unaffected.
In a Capital Lease, the lessee gets both the benefits and risks of ownership. A lease is considered to be a capital lease if it satisfies any of the following conditions:
(a) If the lease duration is more than 75% of the asset's estimated monetary life.
(b) If there is a transfer of ownership to the lessee on culmination of the lease.
(c) If an option to buy the asset at a reduced price, at the end of the lease term exists.
(d) If the present value of lease payments after discount is more than 90% of the asset's Fair Market Value.
Thus a capital lease when signed appears both as a liability and as an asset on the balance sheet. Each year, the business firm can claim depreciation on the asset and also subtract the interest expense factor of the lease fee. Expenses are recognized sooner in a capital lease than in an operating lease.
For any kind of leasing requirement either with an operating lease or a capital lease, you can contact the Graphic Savings Group.
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