November 2007, Business Fleet - Feature
Open vs Closed End Leasing: Which Is Right For You?
By Chris Brown
Commercial leases are divided into two types: the open-end TRAC lease and the closed-end lease. Each has a different set of rules and parameters. Each works better for different fleet situations.
Very simply, in an open-end lease the lessee assumes the depreciation risk but has more flexible terms. In a closed-end lease, the lessor assumes the depreciation risk but the terms are more restrictive.
We asked lessors at three fleet leasing and management companies to dig a little deeper into both to help you determine the lease that works best for your situation. All four write both types of leases, and have no vested interest in one over the other. The first step is to understand the definitions of both types of leases.
Open-End TRAC (Terminal Rental Adjustment Clause) Lease - This type of lease is also known as a finance lease, which as the name implies, permits the lessee to determine the vehicle's service life after a short minimum term, usually 12 months.
After this period, the lease may be terminated at any time without penalty. - The lessee can select the depreciation factor, used to amortize the capitalized cost (with some limitations). Different factors can be used for different vehicles based on specifications and usage.
- The lessee assumes the depreciation risk. The capitalized cost (original purchase price) is reduced monthly by a predetermined amount (depreciation factor) for as long as the vehicles remain in service.
- When the vehicle is taken out of service, the sales proceeds are applied to the book value (capitalized cost minus accumulated depreciation) with any resulting gain passed on to the lessee. If the selling price is less than the book value, the lessee must pay the difference, although provisions for a percentage sharing of gains or losses between lessee and lessor may sometimes be available.