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What is a Leveraged Lease?

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  • Written By: P.S. Jones
  • Edited By: Andrew Jones
  • Last Modified Date: 26 September 2016
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A lease is a contract, in which someone, the lessee, pays for the right to possess the property of another person, the lessor. That lease is considered a leveraged lease when the lessor has bought that property with some of their own money, and borrowed the rest from a financial institution. The amount a lessor must put in a down payment of the initial cost is generally at least 20%, but can be as high as 40%. Then, when the lessee makes payment for use of the property, the lessor uses those payments to repay the loan on the property.

A leveraged lease is a two-part financial process. The lease and the loan are separate contracts. This means that even though the money to repay the loan to the bank originates from the lessee, the lessor is the one held responsible if the loan falls into default. Conversely, once the loan is repaid, the lessor owns the property outright, yet the lease may still be in effect. The lessee will continue make those lease payments to the lessor for as long as the lease is in effect.

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In most leveraged lease cases, the loan will be made on non-recourse basis to the lessor that ranges from as low as 60% to as high as 80%. This means that should the lessor default on the loan, the banking institution can only recover the property and the future lessee payments. If this does not cover the loan’s balance, the difference must be taken as a loss to the lender. This means that non-recourse loans are only made to creditworthy borrowers, and the property in question must be a high value one. +

Under a leveraged lease, all parties involved have their own set of benefits. The lessee has a right to the use of the property in question, but is not responsible for any upkeep of the property. The lessor has ownership rights to that property, including substantial tax benefits. He also has the right to terminate the lease and take possession of the property again, based on certain termination clauses in the contract. The lending institution gets high interest payments during the course of the loan, along with the ownership rights to property and all subsequent lease payments if the lessor should default on the loan.

Although there are many others kinds, the most common type of leveraged lease is done with a rental home. One party puts down a down payment, and takes out a loan to cover the rest of the home’s purchase prices. That person then leases the home to another party that will live in it. Using the second party’s rent payments, the first party pays the mortgage off on the home. If the loan becomes in default, the bank will then seize the home, and take the rights to the rent payments.

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