mf0017-slm-unit-05

Merchant Banking and Financial Services Unit 5

Sikkim Manipal University Page No. 92

Unit 5 Theoretical and Regulatory Framework

of Leasing

Structure:

5.1 Introduction

Objective

5.2 Financial Services

5.2.1 Asset or fund based

5.2.2 Fee based or advisory

5.3 Essential Elements of Leasing

5.3.1 Parties to the contract

5.3.2 Asset

5.3.3 Ownership separated from user

5.3.4 Terms of lease

5.3.5 Lease rentals

5.4 Modes of Terminating Lease

5.5 Classification of Leasing

5.5.1 Finance lease and operating lease

5.5.2 Sale and lease back and direct lease

5.5.3 Single investors lease and leveraged lease

5.5.4 Domestic lease and international lease

5.6 Advantages and Limitation of Leasing

5.7 Applicability of Acts or Laws

5.7.1 Contract Act

5.7.2 Motor Vehicles Act

5.7.3 Indian Stamp Act

5.8 RBI Directions as Applicable to NBFCs on Leasing

5.9 Lease Documentation Procedure and Contents of the Lease

Agreement

5.10 Summary

5.11 Glossary

5.12 Terminal Questions

5.13 Answers

5.14 Case-Let



5.1 Introduction

In the previous unit you learnt about stock broking, custodial services and

depository system. Leasing is a contractual arrangement or transaction in

which a party owning an asset provides the asset for use to another party

over a certain period of time in return for rentals.

This unit will give you an overview of financial services and cover the

theoretical and regulatory framework of leasing. The essential elements of

leasing, classification and its significance and limitations will also be

discussed in this unit.

Objectives:

After studying this unit you should be able to:

explain the different types of financial services

define the concept and classification of leasing

analyse the basic types of leasing

applicability of acts or laws

describe the lease documentation procedure and contents of the lease

agreement

5.2 Financial Services

Financial services are a very important part of the financial system.

Financial services enable mobility and allocation of savings through the

transformation of savings into investments. A well functioning financial

system provides better financial services which empowers individuals,

integrates with the economy, contributes to development, and provides

protection against economic shocks. Financial services are offered by

specialised institutions which help the client to raise funds, manage funds,

and transform savings into investments.

Financial services are classified into two categories based on the asset

creation function of these services

Fund based or asset based category and.

Fee based or advisory based category.

We will study these financial services in the following sections of this unit.



5.2.1 Asset or fund based

Asset based financial services facilitate corporate and other business

entities to mobilise resources at lower rates and open up investment

opportunities with enhanced returns. These services enable the corporate

institutions, in particular, to reject the traditional bank finance and opt for the

more competitive financial market. The debt market enables a borrower to

organise his borrowings and structure the repayments to match future cash

flows. The investment options have widened significantly to enable the

corporate entities to use their surplus cash in short-term maturities and

increase the revenue. The agreement to asset based securities is facilitated

by financial intermediaries through fee based services.

The asset based financial service has emerged as an important

supplementary source of finance in the industry. The following are some of

the asset based financial services:

Leasing – Leasing is a contractual arrangement or transaction in which

a party owning an asset provides the asset for use to another party over

a certain period of time in return for rent.

Hire-purchase – It is a mode of financing the price of the goods to be

sold on a future date. The goods are let on hire with an option to the

hirer to purchase them

Customer credit – Consumer credit includes all asset-based financing

plans offered to individuals for acquiring durable consumer goods. The

main suppliers of consumer credit are multinational banks, commercial

banks and non banking finance companies.

Factoring – Factoring is a fund-based financial service that provides

resources to finance receivables as well as facilitates the collection of

receivables.

Forfaiting – Forfaiting is financing of receivables arising from

international trade.

Bill discounting - Bill discounting is encashing or trading of bills at less

than its par value and before its maturity date.

In the next section, we will discuss the various types of fee based corporate

financial services offered by the financial intermediaries



5.2.2 Fee based or advisory

Fee based financial services are not used to create assets or liabilities.

These financial services facilitate certain financial functions such as

managing capital issues, making arrangements for the placement of capital

and debt instruments, and arrangement of funds from financial institutions.

They also undertake the responsibility of getting all government and other

clearances. In addition, this sector does a large number of other services

like rendering project advisory services, plan mergers and acquisitions, and

guiding in capital restructuring to their clients.

In fee based services, the intermediaries charge fees for their financial

services, like merchant banking services, assisting in mergers, stock broking

and so on. The following are some of the fee based financial services:

Issuing of Letters of Credit (LC) – LCs successfully complete their

purpose to facilitate trade by substituting the credit of the bank for the

credit of the customer. There are mainly two types of letters of credit -

commercial and standby. The commercial letter of credit is the primary

payment mechanism for a transaction, whereas the standby letter of

credit is a secondary payment mechanism.

Issuing Letters of Guarantee (LGs) – LGs can be with or without

collateral security deposit. While there are different forms of LGs in the

context of business usually, Letters of guarantee are concerned with

providing safeguards to buyers that suppliers will meet their obligations

and are issued by the customer's bank depending on which party seeks

the guarantee. The bank essentially becomes a co-signer for the buyer.

It pays the seller only if the buyer cannot pay and so the initial buyer-

seller agreement depends on the seller's credit.

Other services – The other important fee based financial services

generally offered by banks and non banking financial companies include

cash management services, foreign exchange services, merchant

banking services, registrar, underwriting, custodial services, and credit

rating services.

For these financial services the bank will charge fees. However, they are

associated with risk. For example, in the event of invocation of guarantee or

letters of credit, the payment liability immediately falls on the banks and then



becomes a fund based. It will of course have recourse against the defaulter

in whose favour the bank has issued the LC or LG.

Self Assessment Questions

1. Asset based services enable the corporate bodies to replace

________________ bank finance and enter into the more competitive

financial market.

2. ____________ is defined as a contractual arrangement or transaction in

which a party owning an asset provides the asset for use to another

party over a certain period of time in return of rentals.

3. Fee based financial services create assets or liabilities. (True/False)

5.3 Essential Elements of Leasing

As we have already learnt, leasing is a contractual arrangement in which a

party owning an asset provides the asset for use to another party over a

certain period of time in return for a rental. The transaction is generally done

for fixed assets, notably equipment, machinery and planes. We will now

discuss the elements of leasing.

5.3.1 Parties to the contract

Two parties are essential for the contract of lease financing. It is an

agreement between the owner who is the lessor, and the user of the asset

who is known as lessee. The lessor and lessee can be an individual, joint

stock companies, corporation or financial institutions. There are cases when

there will be a third party to the contract, the manufacturer, who will enter

into a contract with the lessee through the financial intermediary who

arranges the transaction between the manufacturer and the user.

5.3.2 Asset

An asset is the property or the equipment which the lessor leases. It is the

subject of the contract of lease financing. The lessor can lease an

automobile, factory, plant and machinery and so on.

5.3.3 Ownership separated from user

The ownership of the asset stays with the lessor according to the contract.

The user can only have the right to use it. After the expiry of the term of the

lease, the asset is returned to the lessor.



5.3.4 Terms of lease

The owner and the user decide the tenure of the lease and accordingly

prepare the contract. It is necessary that the agreement identify, with

certainty, the Commencement Date, the period of the limited interest, and

the termination date. Sometimes the lease period may stretch over the

entire economic life of the asset which we call as financial lease and

sometimes the lease may run shorter than the economic life which is called

an operating lease. Sometimes, the lease may be perpetual, with an option

at the end of the lease to renew the lease for a further specific period.

5.3.5 Lease rentals

The rentals are the payment which the lessor and the lessee fix while

preparing the contract. In the structure of the rental, lessor includes the

depreciation charges, the interest on the investment, repairs and servicing

charges over the lease period.

Activity 1

Consider you own a building. ABC Company wants to take the building on

a five year lease. Discuss the essential elements of leasing with your

lessee.

Refer to the following link for guidance:

http://books.google.co.in/books?id=CXMm5_L0tdEC&pg=SA21-

PA1&dq=Essential+Elements+of+Leasing&hl=en&ei=bf6uTJLBOYqKvQP

414S_Bg&sa=X&oi=book_result&ct=result&resnum=2&ved=0CDUQ6AEw

AQ#v=onepage&q=Essential%20Elements%20of%20Leasing&f=true


4. At least three parties are essential for the contract of lease financing.

(True/False)

5. Asset is the property or the equipment which lessee leases. (True/False)

6. The __________ are the payment which the lessor and the lessee fix

while preparing the contract.

5.4 Modes of Terminating Lease

The termination of lease takes place at the end of the lease period. The

parties mutually agree and select any one of the modes of termination at the

beginning of the lease term. The following are modes to terminate a lease:



Renewal - The lessor and the lessee renew the lease either on a

perpetual basis or for a specific period. Generally, the period of the

lease is for a number of years based on the life of the asset. The cost of

the equipment and the interest on investment are recovered during this

period. This period is known as the primary period and the second term

is known as secondary period.

Return to lessor - The asset again goes to the custody of the lessor if

the lease is not renewed.

Selling equipment to third party - The lessor sells the asset to a third

party after the expiry of the lease period.

Selling of equipment to lessee - The lessor sells the asset to the

lessee permanently after the expiry of the lease period.

5.5 Classification of Leasing

An equipment lease transaction differs on the basis of the following:

Reassignment of risks and rewards or ownership.

Number of parties to the transactions.

Domicile of the equipment manufacturer, the lessor and the lessee.

We will now study the classifications of leasing as illustrated in Figure 5.1.

Figure 5.1: Classification of Leasing

Leasing

Finance lease

and

Operating lease

Sale and

leaseback and

Direct lease

Single investors

lease and

Leveraged lease

Domestic lease

and international

lease

Import lease and

Cross-border

lease



5.5.1 Finance lease and operating lease

Let us now study the finance and operating lease.

Finance lease

In finance lease, the transfer of risks takes place. All the risks and

secondary rewards incidental to the ownership of the asset are transferred

to the lessee by the lessor, whether or not the title is eventually transferred.

It involves payment of rentals over a compulsory, non-cancellable lease

period which must be sufficient to repay the capital outlay of the lessor and

leave some profit. Such a lease is also known as full payout lease. The

lessor is essentially interested in the transaction as a financier and has no

interest in the asset which is essentially required for the lessee for his

business. Assets included under finance lease are ships, aircraft, land,

buildings, heavy machinery, and so on.

Operating lease

In an operating lease, transfer of all the risks and the rewards associated

therewith does not take place and the cost of the asset is not fully recovered

during the primary lease period. The lessor does not depend on a single

lessee for recovering the cost of the asset. Services such as maintenance,

repair and technical advice are provided by the lessor to the lessee. It is

also known as service lease. Operating lease is generally used in case of

assets like computers, office equipment, automobiles and so on.

5.5.2 Sale and lease back and direct lease

Let us now study the sale and lease back and direct lease.

Sale and lease back

Sale and lease back is an indirect form of leasing. The owner of an asset

sells the asset to a lessor and the lessor leases it back to the owner who

acts like the lessee. The sale and lease back of safe deposits vaults by

banks is a good example of this type of leasing. The lease back

arrangement in sale and lease back type of leasing can either be in the form

of a finance lease or operating lease.

Direct lease

In direct lease, the lessee and the owner are two different bodies. A direct

lease is of two types: bipartite and tripartite lease.



Bipartite lease – It consists of two parties the equipment supplier being

the lessor. This lease is typically structured as an operating lease with

inbuilt facilities, like upgradation of the equipment. The lessor maintains

the asset and, if needed, replaces it with similar equipment.

Tripartite lease – This lease involves three parties, the equipment

supplier, the lessor and the lessee. Reference about the customer is

provided by this lease to the leasing company. There are also different

variants to tripartite lease.

5.5.3 Single investors lease and leveraged lease

Next, we will learn about single investor lease and leveraged lease.

Single investor lease

In single investors lease, there are only two parties, the lessor and the

lessee. The leasing company manages the fund of the entire investment by

an appropriate mix of debt and equity funds. The lender is not entitled to

payment from the lessee when there is a default in servicing. The debt

raised by the leasing company to finance the asset is without recourse to

the lessee.

Leveraged lease

In leveraged lease, there are three parties - the lessor, lender and the

lessee. In such a lease, the leasing company buys the asset through

considerable borrowing according to the requirement of the lessee. The

lender obtains an obligation of the lease and the lessee has to pay rentals.

The deal is routed through a trustee who looks after the interest of the

lender and lessor. After receiving the receipt of the rentals from the lessee,

the trustee sends the debt service component of the rental to the loan

participant and the balance to the lessor.

5.5.4 Domestic lease and international lease

Let us now study about domestic lease and international lease.

Domestic lease

In domestic lease, all parties mentioned in the agreement are the residents

of the same country. The party consists of the equipment supplier, lessor

and the lessee. This lease is less prone to risks.



International lease

In international lease, the parties to the lease transaction reside in different

countries. Import lease and cross-border lease are the sub classifications of

international lease. This lease is affected by two types of risks - country and

currency risk.

Import lease – The lessor and the lessee are resident of the same

country but the equipment provider is located in a different country

Cross-Border lease – The lessor and the lessee are resident of

different countries and the residence of the supplier is not at all

important


7. In a finance lease, transfers of _________ take place.

8. Services such as maintenance, repair and technical advice are

provided by the lessor to the lessee in _______________ lease.

9. In single investors lease, there are only two parties, the lessor and the

lessee. (True/False)

10. In leveraged lease the deal is routed through a trustee who looks after

the interest of the lender and lessor. (True/False)

11. Which of the following leases are affected by country and currency

risk?

a) single investors lease

b) finance lease

c) international lease

d) domestic lease

5.6 Advantages and Limitation of Leasing

Advantages of leasing

Leasing has many advantages for the lessee as well as for the lessor.

Lease financing offers the following benefits to the lessee:

One hundred percent finance without immediate down payment for huge

investments, except for his margin money investment.

Facilitates the availability and use of equipments without the necessary

blocking of capital funds.

Acts as a less costly financing alternative as compared to other source

of finance.

Offers restriction free financing without any unduly restrictive covenants.



Enhances the working capital position.

Provides finance without diluting the ownership or control of the lessor.

Offers tax benefits which depend on the structure of the lease.

Enables lessee to pay rentals from the funds generated from operations

as lease structure can be made flexible to suit the cash flow.

When compared to term loan and institutional financing, lease finance

can be arranged fast and documentation is simple and without much

formalities.

The lessor being the owner of the asset bears the risk of obsolescence

and the lessee is free on this score. This gives the option to the lessee

to replace the equipment with latest technology

The following are the benefits offered by lease financing to the lessor:

The lessor’s ownership is fully secured as he is the owner and can

always take possession in case of default by the lessee.

Tax benefits are provided on the depreciation value and there is a scope

for him to avail more depreciation benefits by tax planning.

High profit is expected as the rate of return increases

Return on equity is elevated by leveraging results in low equity base

which enhance the earnings per share.

High growth potential is maintained even during periods of depression.

Limitations of leasing

The following are some of the limitations of leasing:

Lessee is not capable of adding or altering anything to the leased asset

because of the restrictive conditions of the lease agreement.

Financial lease can bring about higher payout accountability if

machinery is not found useful, and the lessee is planning to cancel the

lease agreement or opts for premature termination of the lease contract.

Termination of the lease happens when lessee fails to continue with the

terms and conditions of the lease and the lessor can take possession of

the leased asset, In case of financial lease, the lessee may be made

liable for damages and compelled to make payment of his lease rental in

an accelerated manner.

Double sales tax can be charged once at the time of purchase of the

asset by the lessor and again when it is leased out to the lessee.




12. Leasing __________ the working capital position.

13. Leasing offers tax benefits which depend on the structure of the lease.

(True/False)

14. Low growth potential is a limitation of leasing. (True/False)

15. Termination of the lease happens when lessee fails to continue with

the terms and conditions of the lease. (True/False)

5.7 Applicability of Acts or Laws

Acts and laws are always applicable to contracts or deals. Acts are also

applicable to leasing made by a lessor to a lessee. There are various acts

which are regulated by the government of India.

Let us discuss the following acts related to leasing:

Contract Act.

Motor Vehicles Act.

Indian Stamp Act.

5.7.1 Contract Act

The Law of Contract applies to all contracts including leasing and hire

purchase. There are certain provisions of the Law of Contract which are

applicable to leasing transactions. It is an agreement enforceable by law.

The following are the important elements of a contract:

A contract creates legal obligation. After the preparation of agreement,

lessor and lessee are bound by the agreement.

Each of the parties must give and take something which is legal, and

moral. Additionally, the person or his property must not be damaged.

The contract should not be void under any law. Parties cannot enforce a

void contract.

The parties eligible for leasing must be of 18 years of age and of sound

mind. There must not be any legal disqualification or charges against the

parties entering into a contract.

As per the provisions of the contract act, a contract may be discharged

in different ways and these provisions are applicable to lease

agreement.



Non performance of a contract by a party provides for remedial

measures in the contract act and these provisions are attracted in case

of lease agreements also.

The other important provisions of the contract act relating to payment of

monetary compensation and damages, claim for specific performance,

lodging a suit for Injunction, indemnity and guarantee are all applicable

to lease contracts. Most importantly, leasing is a bailment agreement

and the provisions of the contract act apply to lease agreements.

5.7.2 Motor Vehicles Act

The Motor Vehicles Act consolidates and amends the law relating to motor

vehicles. The lessor is considered as dealer and the lessee as the legal

owner of the asset. Under the act, the owner must register the vehicle. In

case the vehicle is financed under lease agreement, the lessor is treated as

a financier.

5.7.3 Indian Stamp Act

According to this act the payment of stamp duty is necessary on all

documents creating a right in monetary terms. The contracts for equipment

leasing are subject to stamp duty and vary from state to state.


16. _____________ is an agreement enforceable by law.

17. Consideration means that each of the parties has to give and take

something which is _________, moral and must not harm a person or

his property.

18. Which of the following is an important element of contract:

a) Non competent parties

b) Void contract

c) Legal agreement

d) Indian stamp law

19. In the Motor Vehicle Act, the lessor is the dealer and the lessee the

legal owner of the asset and this is necessary for the purpose of

registration of the vehicle under the Act. (True/False)

5.8 RBI Directions as Applicable to NBFCs on Leasing

The Non Banking Financial Companies (NBFCs) play a vital role in

expanding the access to financial services and enhancing competition. It



also diversifies the financial sector. This sector is recognised as a

complementary to the banking system which absorbs financial risks. To

coordinate, control and regulate the functioning of all NBFCs, the Reserve

Bank of India (RBI) issues direction from time to time under the RBI Act.

The RBI has notified the following directions applicable to NBFCs:

NBFCs acceptance of pubic deposits (Reserve bank) Directions, 1998.

Non Banking Financial Companies (Deposit Accepting or Holding)

Prudential Norms (Reserved Bank) Directions, 2007, and Non Banking

Financial Companies (Non deposit Accepting or Holding) Prudential

Norms (Reserve Bank) Directions,2007.

Non Banking Financial Companies Auditors Report (Reserve Bank)

Directions, 1998.

The principle on which these directions are issued is that they are aimed at

deposit accepting NBFCs and are applicable in a restrictive manner (with of

compliance requirements) to NBFCs accepting or holding deposits and in a

limited manner (with lease compliance requirements) to NBFCs not

accepting deposits.

Classification of NBFCs

Figure 5.2 illustrates the classification of NBFC based on their acceptance

of public deposits.

Figure 5.2: Classifications of NBFCs

Regulation for NBFCs not accepting public deposits

The NBFCs that do not accept public deposits are further classified in the

following categories:

NBFCs engaged in loan investment, hire purchase finance and

equipment leasing.

NBFC which acquire shares of their group companies.

Accepting public

deposits

Not accepting

public deposits

NBFC



The RBI decides which company is eligible for leasing. The following are the

NBFCs registered with the RBI:

Equipment leasing company.

Hire-purchase company.

Loan company.

Investment company.

The reclassification of NBFCs was done as given below:

Asset Finance Company (AFC)

Investment Company (IC)

Loan Company (LC)

The AFC is a financial institution which carries on its major business like the

financing of physical assets that support economic activities such as

tractors, automobiles, lathe machines, moving on own power, and general

purpose industrial machines generator sets, earth moving and material

handling equipments.

For leasing, the Institute of Chartered Accountants of India (ICAI) has

defined Accounting Standard (AS) 19 Accounting for Leases. The

accounting standard is important with regard to lease agreements or

financial leases. The lessor has to show the assets given on lease only as

receivables in its balance sheet and not in fixed assets.


20. _______________ recognised as a complementary to the banking

system which absorbs financial risks.

21. The NBFCs that accept public deposits are further classified in _____

categories.

22. The NBFCs engaged in loan investment, hire purchase finance and

equipment leasing is a type of NBFCs not accepting public deposits.

(True/False)

5.9 Lease Documentation Procedure and Contents of the Lease

Agreement

There are formalities and legal documents involved in lease transactions. It

is mandatory to document the lease agreement properly and formalise the

deal.



Let us now learn about the aspects of lease documentation and agreement.

Purposes

The lease document provides evidence of indebtedness, security and,

evidence regarding terms and conditions between the lessor and lessee. It

also helps the leasing companies to take legal action in case of default.

Legal rights

One of the requirements of lease agreement is that the persons executing

the contract must have legal right to do so. The document must be in a

disciplined and predefined format, properly stamped, and witnessed. It is

also necessary to register the document with the appropriate authorities.

Lease approval process

The lease approval process is as follows:

The lessee receives a letter of offer mentioning the terms of the lease

facility.

Lessee signs and returns a copy of offer letter within a stipulated time

and then passes a resolution at a Board meeting accepting the offer.

The lessor obtains attendant lease documents from the lessee. The

attendant lease documents include purchase order, invoice, bill of sale

from supplier, delivery note and so on.

The insurance of the leased asset is processed regardless of who pays

the premium. The policies must be in the custody of the lessor. The

policies are renewed before the expiry date.

Contents of the lease agreement

The following are some of the important elements in a lease agreement are:

Details of the lessor and lessee, and their addresses.

Term of the lease.

Lease rent and the mode of payment.

Details of property leased its location and identification.

Effective date of commencement of the rent agreement and the

duration.

Lease rent and the mode of payment.

Declaration by the lessor that he is either the owner of the property or is

duly authorised by the owner to give the property on lease.



Security deposit amount paid, whether it is interest-free or not, and the

circumstances when it is refundable.

Advance rent payable, if any, and the mode of its adjustment.

Grounds for termination of the agreement.

Notice period required for termination of the lease.

Rent escalation clause regarding the rate of increase of rent.

The other elements depend upon the commercial terms which have been

agreed upon by the parties. There is no bar on the number of years a lease

can be given by the lessor to the lessee. Registration must be done if a

lease of property is given for more than one year. The stamp duty to be paid

depends on the rates in each area in the country.


23. It is not mandatory to document the lease agreement properly and

formalise the deal. (True/False)

24. The purpose of lease document is that it provides evidence of

indebtedness and security and, evidence related to terms between

lessor and lessee. (True/False)

25. ____________ of the leased out asset is done irrespective of the fact

who pays the premium and the policies should be in the custody of the

lessor.

26. Which of the following is not an element of a lease agreement?

a) The lease rent and the mode of payment.

b) Security deposit amount paid, whether it is interest-free or not, and

the circumstances when it is refundable.

c) The effective date of commencement of the rent agreement and

the duration.

d) Details of drainage system.

5.10 Summary

Let us now summarise the important point we learnt in this unit on the

theoretical and regulatory framework of leasing:

Financial services are the services which are provided by the finance

industry.

Asset-based financial services facilitate the corporate entities to mobilise

resources at lower rates and open up investment opportunities with



enhanced returns. Asset based financial services have emerged as an

important supplementary source of finance in industry.

Fee based financial services do not create any assets or liabilities.

However, they facilitate financial functions.

Two parties those are essential for the contract of lease financing known

as lessor and lessee.

The termination of lease takes place at the end of the lease period.

The Contract Act, Motor Vehicle Act and Indian Stamp Act are important

laws that are applicable to leasing transactions.

The NBFCs play a vital role in expanding the access to financial

services and enhancing competition.

5.11 Glossary

Accountability: Responsibility to someone or for some activity

Acquisitions: The act of acquiring or gaining possession

Complementary: Acting as or providing a complement

Contractual: Part of a binding legal agreement

Custodial: Providing protective supervision

Depreciation: A decrease or loss in value

Diversifies: To create different forms

Enforceable: Capable of being enforced

Liquidated: To convert to cash

Obligation: Terms of an agreement

Receivables: Money expected to receive from notes or accounts

Statutory: Authorised by an established law

Trustee: A person to whom the legal title to property is entrusted to hold or

use for another's benefit

5.12 Terminal Questions

1. Discuss the difference between asset and fee based financial services.

2. Analyse the essential elements of leasing.

3. Classify leasing, based on the different types.

4. What are the advantages and limitations of leasing?

5. Discuss the applicability of the Contract Act.

6. What are the RBI directives applicable to NBFCs on leasing?



5.13 Answers


1. Traditional

2. Leasing

3. False

4. False

5. False

6. Rentals

7. Risks

8. Operating

9. True

10. True

11. c) International lease

12. Enhances

13. True

14. False

15. True

16. Contract

17. Legal

18. c) Legal agreement

19. True

20. NBFCs

21. Two

22. True

23. False

24. True

25. Insurance

26. d) Details of drainage system

Terminal Questions

1. Asset based financial services facilitate the corporate entities to mobilise

resources at lower rates and open up investment opportunities with

enhanced returns. Refer to section 5.2.1- Asset or fund based and

section 5.2.2 - Fee based or advisory for more details.

2. The leasing is a contractual transaction in which a party who is having

asset gives it to another party the right to use the asset over a period of



time in return for rentals. Refer to section 5.3 - Essential Elements of

Leasing for more details.

3. Reassignment of risks and rewards or ownership. Refer to section 5.5 -

Classification of Leasing for details.

4. Leasing has many advantages for lessee as well as for lessor. Refer to

section 5.6- Advantages and Limitation of Leasing for details.

5. Law of contract applies to all contracts including leasing and hire

purchase. Refer to section 5.7 - Applicability of Contract Act and Other

Acts or Laws for more details.

6. In order to coordinate, control and regulate the functioning of all Non-

Banking Financial Companies, RBI issues direction from time to time

under the RBI Act. Refer to section 5.8 - RBI Directions as Applicable to

NBFCs on Leasing for further details.

5.14 Case-Let

The Genius Group has been supporting leasing companies and

governments to improve the legal and regulatory framework for leasing.

Its efforts are helping to develop healthy leasing industries in several

countries, which in turn, are raising capital investment and economic

development.

Designing tax incentives for equipment leasing

The economy of Alien Bank was hardly recovering from negative growth

experienced and the CEO was working hard to re-establish faith in the

company and its economy. Its strategy for reducing public expenditure

through a popular referendum had failed. The country was taking into

account new tax reform actions designed to raise revenues in order to

decrease the fiscal deficit and the load of public debt for public finances.

The Genius Group was confident that tax reform will provide a prospect

to propose a legal strategy for stimulating domestic investment and

strengthening the Indian leasing industry. The strategy would increase

government revenues by increasing the economic base that feeds taxes.

The Indian Leasing Association (ILA) retained Genius’s services to

commence a study that compiled all economic analyses which

established the link between leasing tax incentives and economic gains.

The study proved that leasing tax incentives can benefit a company by



expanding fixed capital investment, improving economic welfare,

generating jobs, enhancing productivity and driving overall economic

growth.

Genius’s study was the source for a formal lobbying effort where ILA

influenced the Indian government and Congress to pass leasing tax

incentives. These incentives included tax deduction of lease rentals for

finance leases, and bonus depreciation for the acquisition of capital

goods.

The growth of the leasing industry following the tax change was

exceptional. India’s economic press reported that the leasing industry

grew 130 percent in three months. The Indian economy as a whole has

also expanded. Genius succeeded in proving how valuable equipment

leasing is for the good health of national economies.

Bringing best practices

The International Finance Corporation (IFC), a World Bank dedicated to

developing capital markets in rising economies, retained The Genius

Group to evaluate the legal and regulatory environment in Madhya

Pradesh and Gujarat. IFC specifically wanted Genius to find out the best

regulatory practices for strengthening the equipment leasing industries in

both the states.

Genius designed a map for establishing solid leasing industries in

Madhya Pradesh and Gujarat. After submitting the study, Genius led a

presentation panel to discuss the report with all relevant stakeholders in

Gujarat, including government officials, legislators, bankers, attorneys,

major industry associations and academia. The study prompted the

government to draft a new leasing law in Gujarat.

Discussion Questions

1. Discuss Genius Group’s initiatives to improve the legal and regulatory

framework for leasing.

(Hint: The economy of Alien Bank was hardly recovering from negative

growth experienced and the government.)

2. How can leasing tax incentives help in economic growth?

(Hint: The study proved that leasing tax incentives can benefit a

country.)

Source: http://www.theGeniusgroup.com/articles/case-studies/

improving-the-legal-and-regulatory-framework-for-leasing-businesses-in-

emerging-markets

http://www.thegeniusgroup.com/articles/case-studies/



References

Khan M. Y. (2007). Financial Services. New Delhi. Tata McGraw Hill

Education.

Subramanyam, Pratap G. Investment Banking. The McGraw Hill. New

Delhi.

E-References

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http://www.nabard.org/pdf/report_financial/Chap_I.pdf

- Retrieved on 8th October, 2010.

mf0017-slm-unit-05

Documents

financial services unit

overview of financial

services fund

custodial services

lease agreement

finance lease

lease rentals

domestic lease