Operating Lease
- If under the lease agreement the lessor is entitled to take back the possession of the asset leased from the lessee – the arrangement is considered as operating lease. Operating lease is a genuine lease where ownership for tax and accounting purpose remains with the owner.
- When ownership remains with the owner for tax purpose then the lease is called tax oriented lease. Tax orientation has a significant importance in determining and measuring cash flow impact of lease transactions and their valuation.
- Operating lease is always a tax oriented lease. Under lease agreement lessor is required to maintain and service the leased asset. A common example is licensing agreement of flats in big cities. Under the agreement the landlord leases his (her) flat for eleven months for monthly rental renewable at the option of the landlord after the expiry of eleven months.
- The landlord bears the cost of maintenance and service (security, lift etc). An important feature of operating lease is - lease period is sufficiently less than the economic life of the asset. This means total lease rental recovered based on the lease period is substantially less than the cost of the asset.
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