Question: What Is The Difference Between Lease And Rent Of An Asset, And Which Is Better?
Adekunle Ojo, Ibadan
Answer: When it is not desirable or possible to purchase an asset, leasing or renting provides a ready option.
A lease or rental are similar, in the sense that they give access to an asset for a set time. But they are not exactly the same. What are the differences between lease and rent, and how can they shape your decision to lease or rent an asset?
Leasing: A lease is a contract to rent an asset for an agreed time and terms of payment. A lease outlines the allowed use and maintenance of the asset, which could be land, building, machinery or similar items of value. The lessor (owner of the asset) and the lessee (user of the asset) agree to act as prescribed by the terms of the lease, failing which they will incur penalties.
A lease is usually long-term, ranging from one year to as many as 20 years or more, depending on the kind of asset.
It is also common for the asset to revert to the lessee at the end of the lease, under a purchase option, on payment of an agreed sum for the residual value of the asset. With this payment, after the lease payments during the lease period, the lessee becomes the owner of the asset once the lease runs its course.
In accounting and tax terms, leases may be categorised as operating leases and capital leases. The lease will be considered capital if payments make up most of the fair market value of the asset, the life of the lease approximates that of the asset and the lessee has the option to purchase at residual value.
In a capital lease, your financial statement records the item as a fixed asset, and recognises the obligation as a liability to be amortised over time.
An operating lease does not follow above accounting and tax requirements. You can simply expense the lease payments as you make them.
Rent: The rent of an asset is usually for short periods, typically 12 months or shorter, with option to renew at the discretion of the parties. Rentals are usually temporary and parties do not expect long-term use of the assets, which could also be land, building, machinery or similar items.
Cost of rental is expensed on the income statement for accounting and tax purposes.
To Lease or Rent? The decision depends on the need of your business. If the asset is critical to your business, leasing may be a better option. A lease provides the security and guarantee that your business needs to run. Conversely, you are better off renting an asset if your business does not need it on a day-to-day basis.