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An operating lease is a lease whose term is short compared to the useful life of
the asset or piece of equipment (an airliner, a ship, etc.) being leased. An
operating lease is commonly used to acquire equipment on a relatively short-
term basis. Thus, for example, an aircraft which has an economic life of 25
years may be leased to an airline for 5 years on an operating lease.
The determination of whether a lease is a finance (also called capital) lease or
an operating lease is defined in the United States by Statement of Financial
Accounting Standards No. 13 (FAS 13). In countries covered by International
Financial Reporting Standards, the tests are defined in IAS 17. In July 2006, the
Financial Accounting Standards Board (FASB) and the International
Accounting Standards Board (IASB) announced the commencement of a joint
project to comprehensively reconsider lease accounting. In July 2008, the
boards decided to defer any changes to lessor accounting, while continuing with
the project for lessee accounting, with the stated intention to recognise an asset
and liability for all lessee leases (in essence, eliminating operating lease
accounting). The projected completion of the project is now 2014. As of the
second Exposure Draft in 2013, the boards are considering retaining the single,
straight-line lease expense profile of operating lease accounting, though assets
and liabilities would still be reported.
In the context of cars and other passenger vehicles, under an operating lease the
lessor leases the vehicle to the lessee for a fixed monthly amount, and also
assumes the residual value risk of the vehicle. This provides a way to lease a
vehicle where the cost of the vehicle is known in advance – however, operating
leases can be an expensive option as there is a risk premium priced into the
monthly payments.
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Operating lease has also spread to industrial equipment. The lessor leases the
equipment to the lessee which pays periodically a rent. Operating leases allow
the company not to use its equity in an investment that produces no direct added
value, but to dedicate it to its core business and valuation.
Unlike a finance lease, at the end of the operating lease the title to the asset does
not pass to the lessee, but remains with the lessor. Accordingly, at the end of an
operating lease, the lessee has several possibilities:
Pursuit of the lease
Return of the equipment
Renewal of equipment
Restoration of equipment
Purchase of equipment at their market value
The main advantages of operating lease are:
No incidence of the rents on the balance sheet: they are operating expenses
deductible from profits.
Improvement of cash-flow
Economy of corporate taxes