What are Lease Payments
A lease payment is the equivalent of rent under a contract granting use of real estate, equipment, software or other fixed assets for a specified time. The length of lease payments could range from month to month, as in SaaS, software-as-a-service business models or sometimes very long lengths of time, such as 100 years under a land-lease scenario.
A lease payment amount is determined by such things as asset value, residual values, discount rates and a lessee's credit score.
BREAKING DOWN Lease Payments
Lease payments can be made by individuals as well as companies. Leases are most commonly used by individuals to finance cars, but can also be used to obtain computers and land, among others things.
A company's lease payments are used in the calculation of the fixed-charge coverage ratio. This ratio helps investors see if a company can cover its fixed expenses, such as leases and interest.
Common Types of Leases
Common leases types include operating leases, financial leases (also called capital leases), sale-and-leaseback arrangement and combination leases which often combine elements of the prior leases but don't fit neatly into one category.
The most significant characteristic of an operating lease is that provides for both financing and maintenance. Meaning, lease payments include an element for financing charges as well as a maintenance component. Which requires the lessor to maintain and service the leased equipment. As an example, it is not uncommon for an owner of an aircraft to lease jets engines. Because the owner likely doesn't specialize in parts and maintenance for such highly technical components, it makes sense to include a maintenance charge directly with a lease payment. For instance, Pratt & Whitney leases many jet engines to airlines and aerospace manufacturers, knowing their equipment best, it makes sense for Pratt & Whitney to service their equipment.
Financial leases differ from operating leases in that they do not provide for maintenance in lease payments.
Newer leases types which often offer more customized service levels and lease payment structures include synthetic leases and lease tied to mileage, hours, or some usage level. For example, General Electric often leases expensive locomotive components with lease payments tied to mileage. In theory, a lessee is only paying for what they need.