The Anatomy Of A TRAC Lease Agreement
A large sector of the transportation industry, among others, are now taking advantage of a special type of capital equipment lease known as a TRAC lease. Also known as a Terminal Rental Adjustment Clause Lease, it is an affordable way for a business whose major interest is in leasing vehicles for business purposes to finance the eventual ownership of those vehicles in a more convenient and affordable way.
What is The Purpose of Such a Lease Agreement?
Rather than going through the hassle of obtaining financing for each truck, car or trailer as needed, a business owner can negotiate a TRAC lease for the purpose of renting the vehicle for a predetermined length of time and then purchasing it at the end or terminal for a agreed upon price. This allows them to pay rental fees per month for the use of the vehicle and then pay a fixed price at the end for full ownership.
The payment amounts negotiated are more flexible than in other lease agreements, because they can be adjusted over the term of the lease. Seasonal business operators can pay for their rental of the vehicle with larger, seasonal payments, for example, according to their cash flow options at that time. Or, full year operators can pay adjustable rental payments per month and even step-up payments to accelerate the lease agreement if they choose. All of this gives them the use of the vehicle, without having to make a large down payment or pay a lot of financing fees, like interest throughout the length of the lease.
What Happens When The Lease Ends?
When this lease is begun, the fixed price per vehicle is negotiated and agreed upon to be paid to the leasing agent in full when the lease is over. This price is usually a percentage of the fair market value of the vehicle at the beginning of the lease and will not change by the time the lease expires. Once paid for, the rights of full ownership transfer and the business owner can now claim all tax benefits from the purchase of the vehicle.
If the business owner chooses to not purchase the vehicle at the agreed upon price at the end of the lease, the leasing agent reserves the right to sell that vehicle outright to another party, if possible.
If the final sale price is less than the agreed upon value to the business owner, then the business owner must make up the difference to the leasing agent, as the leasing agent was legally bound to accept that price from them at the end of the lease.
If the sale goes through for a greater value than the negotiated price for the business owner, then the business owner is owed a rebate of the equivalent rental payments they had paid over the term of the lease.
The IRS considers a TRAC lease to be a true tax-oriented lease agreement. Upon ownership, a business owner can claim full depreciation for the vehicle, as well as any rental payments prior to ownership that would be allowed. Tax reform programs led to the creation of this type of lease so that commercial truck companies could continue to keep newer, better trucks on the highways, and allowing for expenses to be depreciated as if the truck was owned from the start. This is yet another reason why this method is a much more affordable way to finance capital purchases in a tough economy.