Investment loan or leasing: the comparison your bank will not do for you

1. Two legally different operations

Ordinance no. 96-09 of 10 January 1996 expressly classifies leasing operations as "credit operations", in that they constitute a way of financing the acquisition or use of an asset (Article 2). The economic resemblance to an investment loan ends there.

The structural difference is ownership. Under Article 19, the lessor remains the owner of the leased asset for the whole term of the contract, until the purchase is completed by the lessee should it exercise the purchase option at the end of the irrevocable rental period. Under a conventional investment loan you are the owner from the moment of acquisition, and the bank holds only a security interest.

Finance or operating: the distinction in Article 2

The ordinance distinguishes two regimes. An operation is a "finance lease" if the contract transfers to the lessee all rights, obligations, advantages, disadvantages and risks attached to ownership of the asset, if it cannot be terminated, and if it guarantees the lessor the right to recover its capital outlay and be remunerated on the capital invested. It is an "operating lease" where all or substantially all of those rights and risks remain with the lessor.

2. The clauses the contract must contain

Before any calculation, you need to know what you are comparing. The ordinance imposes a minimum content, and its absence has a heavy consequence: the contract loses its classification.

Article 11 is explicit — a movable-asset leasing contract corresponding to a finance lease must, on pain of losing that classification, state four elements:

1. the rental term;
2. the rentals;
3. the purchase option granted to the lessee at the end of the contract;
4. the residual value of the acquisition price of the leased asset.

These four items are exactly what you need in order to calculate. A contract that omits them is not merely impossible to price: it is legally fragile.

The irrevocable period

Article 10 requires the contract to guarantee the lessor a certain amount of rentals over a period known as the "irrevocable period", during which the lease cannot be terminated, save agreement to the contrary between the parties. Article 12 adds that this term is fixed by mutual agreement, and may correspond to the presumed economic life of the asset or be set by reference to accounting or tax depreciation rules.

This period is the principal constraint of leasing. The rentals are locked in as a charge for its whole duration, whatever happens to your business.

What a rental contains

Article 14 breaks the rental down, unless otherwise agreed, into three components:

• the purchase price of the leased asset spread over instalments of equal amount, plus the residual value payable when the purchase option is exercised;
• the lessor's operating costs relating to the asset;
• a margin representing the profit or interest remunerating the credit risk and the capital tied up.

In other words, the rental embeds a financing cost that is not displayed as a rate. Recovering that rate is the first step in any serious comparison.

The three exits at the end of the contract

At the end of the irrevocable period, Article 16 leaves the lessee, at its sole discretion, three possibilities: buy the asset at the residual value set in the contract, renew the lease for a term and rental to be agreed, or return the asset to the lessor.

3. The tax treatment that changes the calculation

This is the point most often mishandled, and the one that sometimes reverses the conclusion. The two options do not generate the same tax saving, nor at the same pace.

The Ministry of Finance lists the tax measures adopted in favour of lease financing. Two of them are decisive for a comparison:

• deductibility from taxable profit of the rental paid to the lessor (Finance Act 1996);
• alignment of the depreciation period of fixed assets with that of the finance lease contract (Supplementary Finance Act 2001).

The consequence is mechanical. Under an investment loan, the deductible base consists of interest and the depreciation of the asset. Under a finance lease, the whole rental is deductible. Since the rental contains both capital and margin, the deduction is wider at the outset.

4. The numbers compared: the only valid method

Comparing the total amounts paid is the most widespread error. It ignores three things: that 1 dinar paid in year 5 is not worth 1 dinar paid today, that the loan's own contribution is an immediate cash outflow, and that the two options do not generate the same tax saving.

The correct method reduces each option to a single number: the present value of after-tax cash outflows. Here it is, applied to a complete case.

Assumptions

The 8% and 10% rates are calculation assumptions used to illustrate the method: replace them with the terms actually offered in your own quotes.

Option A — Investment loan

Constant annuity on DZD 7,000,000 at 8% over 5 years: DZD 1,753,195 per year.

Present value of net outflows, including the DZD 3,000,000 contribution: DZD 8,202,340.

Option B — Finance lease

Constant annual rental, full financing of DZD 10,000,000 at 10% over 5 years with a residual value of DZD 100,000: DZD 2,621,595 per year. The rental is fully deductible, giving a tax saving of DZD 498,103 per year and a net outflow of DZD 2,123,492 per year.

Present value of net outflows, residual value included: DZD 8,546,546.

The verdict, and what it actually means

The loan is DZD 344,206 cheaper in present value. But it ties up DZD 3,000,000 on the day of signature. So the question is not "which one costs less", it is:

A second reading of the same calculation: with an identical structure, the two options break even when the lease rate reaches 8.42%. Leasing can therefore carry 42 basis points more than the loan before becoming genuinely more expensive — the gap coming from the pace of tax deduction and the absence of an own contribution.

This present-value reasoning is the same one set out in our article on calculating NPV and IRR, applied here to a financing choice rather than an investment choice.

5. The risk the comparison does not show

A discounted-cost calculation measures what happens if everything goes to plan. It says nothing about what happens in difficulty — and that is where the two options diverge most.

Article 20 of Ordinance 96-09 provides that the lessor may, throughout the term of the contract and after 15 clear days' notice and/or formal demand, terminate the lessee's right of use and recover the asset amicably or by a simple order not subject to appeal, issued on application by the president of the court of the lessor's domicile, where a single rental instalment goes unpaid.

The same article specifies that non-payment of a single instalment constitutes wrongful termination of the contract, and that the lessee may no longer rely on the contract to continue the lease on the original terms once the lessor has exercised its right of repossession.

The other consequences of termination

Article 13 provides that termination of the contract during the irrevocable period by the lessee triggers payment of compensation the minimum amount of which cannot be less than the rentals still due, unless the parties have agreed otherwise. The lessor's right is then exercised through repossession of the asset and through its lien over the lessee's realisable assets.

Article 23 grants it, for the recovery of its claim, a general lien over all movable and immovable property, receivables and account balances of the lessee, ranking immediately after the liens set out in Articles 990 and 991 of the Civil Code and those of employees for the non-attachable portion of wages.

There is a counterpart, and it works in your favour: Article 22 provides that in the event of the lessee's insolvency, dissolution, judicial administration or bankruptcy, the leased asset escapes all proceedings by its creditors, whatever their legal status and rank. The asset does not form part of the estate — but precisely because it does not belong to you.

This risk asymmetry is inseparable from the cash-flow strain described in our article on working capital requirement: it is very rarely profitability that causes a missed instalment, it is the timing mismatch in cash.

6. The decision grid

The calculation gives a figure. The decision is taken on five criteria, only one of which is financial.

Four questions to ask before signing a lease

1. What is the implicit rate? It is not displayed. Reconstruct it from the price of the asset, the rentals and the residual value: it is the only figure comparable with a loan rate.
2. Exactly how long is the irrevocable period? It determines how long the rental is due whatever happens.
3. What is the residual value, and is it realistic? A high residual value lightens the rentals but shifts the cost to the exercise of the option.
4. What obligations does the contract place on me? Article 17 validates clauses placing on the lessee installation at its own cost and risk, and the obligations of maintenance, repair and insurance. Those costs belong in the comparison.

If the financing is to be presented to a bank, the consistency of the funding plan with the rest of the file remains decisive — see our article on how much own contribution is actually required.

This article sets out a comparison method and constitutes neither legal advice, nor tax advice, nor a financing recommendation. The provisions cited are those of Ordinance no. 96-09 of 10 January 1996; the tax measures mentioned are those listed by the Ministry of Finance and must be verified in the wording in force at the date of signature.

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BENSAID Farouk

Financial & Economic Research Consultant — ProfitPilot NextGen Consulting

Certified sole trader and expert in financial studies, risk analysis and market research for SMEs, startups and investors in Algeria. View full profile →