What is a full payout lease?

The lessor sets the periodic rent so that the present value of the rentals equals the asset's capital cost plus a finance margin. Each payment covers capital recovery (amortisation of the purchase price across the term), the finance charge, and any establishment or administration fees. GST is added where applicable.

Because the lessor is recovering its capital through the rentals, the contractual residual is often nominal or zero. The contract should set out the end-of-term buyout formula for the lessee: a fixed residual, market value or a pre-agreed purchase price. A sample amortisation schedule and an early termination quote show what the lease really costs.

A finance lease also amortises most or all of the asset's cost, but it typically transfers the risks and rewards of ownership to the lessee, who then bears the residual risk. A full payout lease emphasises that the lessor recovers its capital through the rentals, so the lessee's main exposure is the purchase price at the end of the term.

An operating lease runs for less than the asset's economic life and leaves the residual risk with the lessor, which suits short-term use and regular upgrades. A fully maintained operating lease bundles servicing and repairs into the rentals, whereas a standard full payout lease usually leaves maintenance with the lessee.

Under AASB 16, a lessee recognises most leases on the balance sheet as a right-of-use asset and a lease liability, measured at the present value of the lease payments. The right-of-use asset is then depreciated and interest is recognised on the liability. Lessors continue to classify leases as finance or operating for their own accounting.

If the lessor is registered for GST, the rentals usually include GST, and a GST-registered business can generally claim input tax credits on eligible payments. Where a lease carries a purchase option or a nominal residual, the ATO generally treats it as a notional sale and loan rather than a rental, so the lessee claims the decline in value of the asset and the finance charge in each payment instead of deducting the full rental. The ATO publishes minimum residual value guidelines by term, and a residual set below the relevant guideline is one reason that treatment applies. Check the position with your accountant or the ATO before relying on it.

The clauses that move the cost of a full payout lease are the residual value guarantee (if the lessee takes on the residual, its risk goes up), the termination fee for ending the lease early, and the end-of-lease purchase formula. Vehicle leases may also carry usage caps with penalties for excess kilometres.

Other terms worth reading closely are the required insurance cover and lessor interest endorsement, any security deposit or upfront fees, and the default interest and remedies for missed payments. Getting any verbal commitments in writing avoids arguments later.