## Types of Lease

AS 19 classifies every lease into one of two types based on whether the risks and rewards of ownership are substantially transferred to the lessee.

### Operating Lease

Functions like a normal rental agreement
Risks and rewards of ownership remain with the lessor
Asset stays on the lessor's balance sheet
Lessee: records Lease Rent Expense
Lessor: records Lease Rent Income + Depreciation on asset

### Finance Lease

Functions like a loan/EMI purchase — as if lessee bought the asset financed by the lessor
Substantially all risks and rewards transfer to the lessee
Asset moves to the lessee's balance sheet (even though legal title may remain with lessor)
Lessee: records Asset + Lease Liability, charges Depreciation + Interest
Lessor: records Lease Receivable, earns Interest Income

### Quick Comparison

Aspect	Operating Lease	Finance Lease
Analogy	Rental	Loan / EMI
Asset in whose books	Lessor	Lessee
Risk & reward transfer	No	Yes
Lessee's P&L charges	Lease Rent Expense	Depreciation + Interest
Lessor's P&L credits	Lease Rent Income	Interest Income

> Substance over form: Even if the legal title never transfers, if the economic substance is that the lessee bears all risks and rewards → it is a Finance Lease.

Worked example

### Example 1

BB Sir rents his studio to AK Sir for 1 year at ₹5L, with no ownership transfer, no bargain purchase option, and lease term is just 2.5% of studio's economic life → Operating Lease. BB Sir keeps studio on his books and records depreciation; AK Sir records lease rent expense only.

### Example 2

BB Sir 'gives' his studio to AK Sir for 38 out of 40 years of its economic life (95%), with ownership transferring at the end → Finance Lease. Studio moves to AK Sir's books; BB Sir records lease receivable.

⚠️ Common exam mistakes

Recording a Finance Lease asset in the lessor's books — in a Finance Lease the asset must be in the lessee's books.
Charging 'Lease Rent Expense' in a Finance Lease — the correct charges are Depreciation and Interest Expense.
Thinking legal title transfer is required for Finance Lease — it is NOT; economic substance (risk/reward transfer) controls the classification.

Bare-Act text Para 3(a) & 3(b) — Finance Lease and Operating Lease · AS 19 · click to expand

A finance lease is a lease that transfers substantially all the risks and rewards incident to ownership of an asset. Title may or may not eventually be transferred. An operating lease is a lease other than a finance lease.

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Types of Lease — Operating vs Finance

Worked example

⚠️ Common exam mistakes