Off Balance Sheet Financing

Off-Balance Sheet Financing: Lease / Leasing

Off-balance sheet financing is one of the hot topics in accounting for leases because of the effects it imposes on financial reporting. Contrast to loans, debt and equity, which do appear on the balance sheet, operating leases are one f the most common forms of off-balance sheet financing. Other examples of off-balance sheet financing include joint ventures, research and development partnerships, and so on. Leasing is one of the most common ways of off-balance sheet financing. In operating leasing, the asset itself is keeping on the lessor’s balance sheet, and the lessee reports only the required rental expense for use of the asset (Weil). On the other hand, capital leasing is usually used to finance equipment for the major part of its useful life, and there is a reasonable assurance that the lessee will obtain ownership of the equipment by the end of the lease term (Weil). Generally Accepted Accounting Principles in the U.S. have a set of rules and limitations for companies to follow in determining whether a lease should be capitalized, included on the balance sheet as purchases of capital equipment, or expensed. The financial procedures for dealing with leases should entail benefits as well as limitations to ensure each company is fairly representing all of its financial statements. Therefore, continuing search for convergence of FASB and IASB on this issue is important to make leases as transparent and honest as possible to external users.

Tax and market considerations motivate firms to lease. One of the main advantages of leasing over purchases is that leasing offers tax saving advantages. For example, a company with little or no taxable income, maybe a business just getting started, or one experiencing an economic downturn, will get little benefit from depreciation deductions (Forbes.com). However, a company can benefit from leasing assets rather than buying. By allowing the lessor to maintain ownership and...