What is a Finance Lease?

How does a Finance Lease Work?

When you lease equipment, the lessor will either be the supplier of the equipment or a finance house which buys the equipment from the supplier for cash and then recovers the expenditure from you, the lessee, over the period of the equipment lease.

As a lessee of the equipment under a finance lease, you have legal remedies similar to those of an outright buyer if the equipment is faulty or defective.

Under a finance lease, the lessor will require you to keep up instalments and maintain the equipment during the life of the lease. He can also repossess the equipment if you default. This is so even if you are subject to insolvency proceedings as equipment held under a finance lease remains the lessor's property. As the lessor retains ownership of the equipment, you invariably have no right to sell the equipment.

At the end of the lease, you must hand the equipment back to the lessor. However, you are likely to have the option to buy the equipment at a nominal price at the end of the term, unless the equipment has any significant residual value.

As the lessee, you may want, or need, to terminate a finance lease and return the equipment to the lessor. You do not normally have the right to end the finance lease before it has expired. If you do so, the lessor is likely to claim compensation under the terms of the lease for the loss of his future revenue under the lease. This may not necessarily be the whole sum of the outstanding payments(although that is often claimed)but the lessor will require compensation to some extent for the loss of future lease payments.

There are a number of formulae commonly used as a basis of negotiation for early finance lease termination settlement, some of which are recommended by the relevant trade associations. Commonly, the lessor will not particularly want the equipment back and may well be willing to negotiate. If you, as lessee, simply stop making the payments due or fail to comply with your other obligations under the lease, the lessor will usually reserve the right to enter your premises to repossess the equipment and recover compensation for his lost future revenue.

In practice such business terms with major finance companies/suppliers are rarely negotiable unless the equipment and sums involved are particularly large.