- What are the benefits of leasing with CDF?
- What are the different types of leases?
- Why lease equipment vs. getting a loan?
- What is my interest rate?
- Can an operating lease have a set buyout price?
- What taxes are additional to the lease payment?
- Why does CDF include Property Tax in the lease payment?
- Does the CDF lease provide for early termination?
- Does CDF support sale-leaseback programs of equipment portfolios?
- What information does CDF use to determine the creditworthiness of a potential vendor, partner or client?
1. What are the benefits of leasing with CDF?
The two most common leases are an operating lease and a capital lease. The lease terms and obligations of the two parties - the leasing company and the lessee - are very different. In addition, the accounting treatment for each lease type by both parties is very different.
2. What are the different types of leases?
The two most common leases are an operating lease and a capital lease. The lease terms and obligations of the two parties - the leasing company and the lessee - are very different. In addition, the accounting treatment for each lease type by both parties is very different.
An operating lease, also known as a Fair Market Value (FMV) lease, is an agreement between a leasing company and a lessee (generally a business), whereby the leasing company purchases the equipment outright and receives monthly payments from the lessee for its use of the equipment. The term of using the equipment can vary in accordance with the needs of the lessee and the lessee's payments are essentially a rental payment for the period of time.
At the end of the mutually-agreed upon term, whether 12 months, 36 months or other arrangements, the equipment is returned to the leasing company and the lessee has no further obligations. In most cases, the lessee has the option to:
- purchase the equipment at the then Fair Market Value of the equipment,
- continue using the equipment at some mutually agreeable monthly payment or
- return the equipment.
Monthly payments are viewed by the lessee as a rental expense on the income statement. A related term is "equipment rental," which is in some ways viewed as a shorter term operating lease, although a rental does not have any option for the lessee to purchase the equipment at any point. Since this type of lease is open-ended and the sum of the payments are unknown, there is no associated interest rate that can be determined.
A capital lease is another type of lease where there is still an agreement executed between the leasing company and a lessee, except that the intent of the agreement is more of a purchase over time. There are monthly payments per the lease agreement and at the end of the lease term, the lessee is obligated to purchase the equipment for a specified buyout amount. Consequently, a capital lease is viewed much like a loan for accounting purposes by each party.
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3. Why lease equipment vs. getting a loan?
A loan is an agreement for a borrower to receive a fixed amount of cash from a creditor, i.e. - the principal, and make installment payments of principal and interest over the term of the loan. In many cases, the interest rate may vary with some underlying interest rate (i.e. - the Prime Rate at some major banking institution), resulting in unpredictable payment amounts over the term of the loan. At the end of the term, assuming all payments were made in a timely manner, the amount has been completely paid off.
In the accounting process for a loan, each party should record the associated principal and interest of each payment, where only the interest is revenue to the creditor or an expense to the borrower. Assuming the principal amount was used to purchase equipment, all of the issues of owning equipment, such as full accounting and filing property tax for each piece of equipment, are the responsibility of the borrower. Many loans require extra requirements by a creditor. For instance, it is not uncommon for a creditor to require additional or blanket liens of all assets of a borrower. In many cases, a loan can tie up credit lines.
With a lease, the lessee can choose a term to match the intended use period of the equipment. A lease also provides flexibility with anticipated options at the end of the lease term. Unlike a loan, a lease is typically associated only with specific equipment and does not involve blanket liens of a business's other assets. A lease has fixed payments that will not vary if underlying interest rates change. And entering into a lease agreement typically leaves existing credit facilities open for other uses.
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As mentioned above, the various structures of an operating lease, especially with regards to a buyout of the equipment at the end of a lease term, is such that an interest rate cannot be determined. A capital lease, much like a loan, will have an interest rate associated with it.
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5. Can an operating lease have a set buyout price?
No. Per accounting rules, an operating lease cannot have a specific buyout amount stipulated at the beginning of the lease. If such an amount is stated, then the lease would automatically be classified as a capital lease.
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6. What taxes are additional to the lease payment?
Tax rates are established by state and local tax authorities, so they vary across the country and may change periodically. In most states, there is a sales/use tax rate that is applicable to all lease payments and added to the monthly payment.
In addition, many larger cities have local taxes, such as transit taxes, that are also applicable. These rates will vary from month to month and from jurisdiction to jurisdiction, often from zip code to zip code! CDF’s systems will keep track of all such tax rates, updated at least monthly and occasionally more frequently.
The other common tax associated with equipment leasing is property tax, which is the responsibility of whoever owns the equipment. In an equipment lease, the amount of the property tax due to a tax authority is passed onto the lessee in some manner, either as part of the monthly payment or as an annual lump sum. It should be noted that a property tax is due regardless of who owns the equipment. If the equipment is purchased via cash or a loan, it is the responsibility of the business having title to the equipment. In essence, utilizing a leasing program can be viewed as outsourcing this requirement of equipment ownership.
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7. Why does CDF include Property Tax in the lease payment?
A lease agreement will view the equipment as collateral for its extension of credit to a lessee and will state in the documents that it is a lienholder in some manner for the equipment being leased. However, a failure to pay applicable property taxes can result in the local government filing a lien on the equipment that would supercede CDF’s position and therefore impact our collateral position. CDF always wants to be the responsible party for complying with property tax laws so as to avoid any issues with non-payments of property tax due.
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8. Does the CDF lease provide for early termination?
Generally speaking, our lease documents do not support early termination of a lease. However in certain cases, we can customize a program to allow for an early termination. This issue would be discussed at the outset of creating a program.
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9. Does CDF support sale-leaseback programs of equipment portfolios?
Yes, CDF is pleased to look at all existing portfolios and evaluate a sale-leaseback agreement, or an outright purchase.
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10. What information does CDF use to determine the creditworthiness of a potential vendor, partner or client?
CDF will require credit information from all potential lessees and vendor partners, to help us determine the credit risks of a given transaction. While circumstances vary with each transaction, we may take into account the financial condition of the lessee, its owner(s), the associated equipment, and the market/industry in which the equipment is being used. Obviously, most transactions are unique to some extent and we try to evaluate each on its own merits.
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