Purchasing a company car, machinery, or new equipment is often an important step in business development. However, such investments can represent a significant financial expense, particularly when a company wants to maintain liquidity while ensuring sufficient funds for its day-to-day operations.

This is why many entrepreneurs consider leasing as an alternative to an outright purchase or financing through a bank loan.

Before making a decision, however, it is important to answer one key question: Do you want to retain ownership of the asset in the long term, or is it more important to use it for a certain period and then replace it?

The answer largely determines whether finance leasing or operating leasing is more suitable for your business. The differences between these two models go beyond ownership and also involve costs, tax treatment, accounting recognition, and long-term financial planning.

What Is Leasing and How Does It Work?

Leasing is a form of financing in which a lessor allows a lessee (for example, an entrepreneur or company) to use a specific asset, such as a vehicle, machine, production equipment, or IT equipment, for an agreed period in exchange for contractual payments.

Instead of paying the full purchase price upfront, the entrepreneur uses the asset during the agreed period and makes payments according to the terms of the leasing agreement.

In Croatia, the activities of leasing companies are regulated by the Leasing Act (Official Gazette No. 141/13), which distinguishes between two main types of leasing under Article 5: finance leasing and operating leasing.

Although both models involve the use of assets in exchange for payments, their economic purposes differ.

Finance Leasing – When You Want to Retain an Asset in the Long Term

Finance leasing is most commonly chosen by entrepreneurs who intend to use an asset over the long term, with the option to purchase it at the end of the agreement.

Finance leasing is characterized by the transfer of most of the risks and rewards associated with ownership to the lessee, together with a contractual purchase option.

For example, a company may need to acquire a production machine that it plans to use for the next ten years. Instead of purchasing the machine outright, the company can enter into a finance leasing agreement, gradually repay its obligations, and exercise the purchase option once the contractual conditions have been fulfilled.

This model can be particularly beneficial for assets that will provide long-term business value.

What Are the Advantages of Finance Leasing?

The main advantage of finance leasing is the possibility of acquiring ownership of the asset at the end of the agreement.

Entrepreneurs can use the asset without having to pay its full value upfront, while spreading financing costs over a longer period.

Finance leasing may also be suitable for companies that want to plan the long-term use of vehicles, machinery, or other equipment.

However, it is important to consider that the lessee generally bears most of the risks and costs associated with the asset, including maintenance, insurance, and potential depreciation in value, depending on the contractual terms.

Operating Leasing – When Use Is More Important Than Ownership

Operating leasing is based on a different business approach.

Its primary purpose is not to acquire ownership but to use an asset for an agreed period.

Under operating leasing, the lessor bears the depreciation costs of the leased asset, retains most of the risks and rewards associated with ownership, and does not grant the lessee a contractual purchase option.

This means that, at the end of the agreement, the asset is generally returned to the lessor in accordance with the contractual terms.

For example, a company operating several company vehicles may enter into an operating leasing agreement for a specified period. Once the agreement expires, the vehicles are returned, and the company can arrange to use new vehicles according to its business needs.

This approach can be particularly attractive to companies that want to regularly renew their vehicle fleets or use equipment that becomes technologically outdated relatively quickly.

What Are the Advantages of Operating Leasing?

Operating leasing offers greater flexibility when planning asset use.

Entrepreneurs do not have to commit to long-term ownership of vehicles or equipment they may wish to replace after a few years.

Depending on the agreement, monthly payments may also include additional services such as maintenance, insurance, or fleet management.

However, these services are not automatically included in every operating leasing agreement. It is essential to check exactly what a particular offer includes and which costs remain the responsibility of the lessee.

Finance Leasing vs. Operating Leasing – Key Differences

Criteria	Finance Leasing	Operating Leasing
Primary objective	Long-term use with the option to acquire ownership	Use of an asset for an agreed period
Ownership	Purchase option under the agreement	Asset is generally returned to the lessor
Risks and rewards	Primarily borne by the lessee	Primarily retained by the lessor
Depreciation under the Leasing Act	Borne by the lessee	Borne by the lessor
Maintenance and insurance	Generally the responsibility of the lessee	Depends on the agreement and service package
Typical applications	Long-term machinery, vehicles, and equipment	Vehicle fleets and equipment that is regularly replaced

Although this comparison helps explain the main differences, the final decision should not be based solely on the amount of the monthly payment.

It is important to analyze the total costs over the duration of the agreement, any residual purchase value, tax treatment, and the impact on financial statements.

How Does Leasing Affect Accounting Records?

One of the most important questions for entrepreneurs is how finance leasing and operating leasing are recorded in accounting.

Under finance leasing, the lessee recognizes the asset and the corresponding liability to the lessor. During the period of use, depreciation and finance costs are recognized in accordance with the applicable accounting standards.

For operating leasing, the accounting treatment depends on the standards applied by the company.

Companies applying the Croatian Financial Reporting Standards (CFRS/HSFI) generally recognize operating lease payments as rental expenses in accordance with the relevant standard.

However, the situation is different for companies applying International Financial Reporting Standards (IFRS).

Under IFRS 16 – Leases, lessees recognize a right-of-use asset and a corresponding lease liability for most leases, subject to certain exemptions, such as short-term leases and leases of low-value assets.

Therefore, it is incorrect to generally claim that operating leasing never affects a company’s balance sheet.

The accounting treatment should be determined before signing the agreement, particularly if the company monitors indicators such as indebtedness, profitability, and asset value.

What About VAT and Tax Deductibility of Expenses?

Tax treatment is often one of the deciding factors when choosing a leasing model.

However, neither finance leasing nor operating leasing automatically provides the right to fully deduct input VAT or recognize all related expenses for tax purposes.

In common practice, finance leasing is generally treated as a supply of goods for VAT purposes, while operating leasing is treated as a service involving the use of an asset. As a result, the method and timing of VAT calculation differ.

Particular attention should be paid to passenger cars.

The Croatian Value Added Tax Act, particularly Article 61, prescribes restrictions on the deduction of input VAT for passenger cars and related expenses, subject to statutory exceptions.

In standard cases, taxpayers cannot deduct 50% of the input VAT charged on the purchase or lease of a passenger car, including related goods and services. Specific activities and vehicle uses may qualify for exceptions prescribed by law.

In addition to VAT, it is necessary to consider the tax deductibility of depreciation, interest, lease payments, and other related expenses under the Croatian Corporate Income Tax Act.

It is particularly important to distinguish between business and private use of vehicles, as well as any potential taxation of benefits in kind.

Due to the different rules and possible exceptions, tax implications should be assessed according to the specific type of asset and how it will be used.

What Should You Consider Before Signing a Leasing Agreement?

The monthly payment is often the first figure entrepreneurs consider when comparing leasing offers, but it does not necessarily reflect the total cost of leasing.

Before making a decision, it is important to review the amount of the initial down payment or security deposit, total fees, the interest rate where applicable, insurance and maintenance costs, early termination conditions, and any additional charges associated with returning the asset.

Article 52 of the Croatian Leasing Act specifies the mandatory elements of a leasing agreement, including the value of the leased asset, the total amount of lease payments, the duration of the agreement, and the conditions for early termination.

For finance leasing, additional information is required regarding the down payment, repayment schedule, and nominal and effective interest rates.

For operating leasing, the agreement must include information on lease instalments and the residual value of the leased asset.

These details allow businesses to compare offers more effectively and assess the actual financial burden.

Which Type of Leasing Should You Choose for Your Business?

There is no universally better option. The choice depends on the type of asset you need, how long you intend to use it, and what you want to achieve.

Finance leasing may be more suitable if:

• You plan to use the asset over the long term.
• You want the option to purchase the asset.
• You are acquiring machinery or equipment that will generate value for many years.
• You are prepared to assume most of the costs and risks associated with the asset.

Operating leasing may be more suitable if:

• You want to regularly replace vehicles or equipment.
• Ownership of the asset is not your priority.
• Flexibility is important to your business.
• You want more predictable usage costs, particularly if the agreement includes additional services.

For example, finance leasing may be a more logical choice for a company acquiring a specialized production machine intended for many years of use.

On the other hand, operating leasing may offer greater practical advantages to a company that renews its vehicle fleet every three or four years.

Nevertheless, the final decision should be based on a comparison of total costs rather than individual monthly payments alone.

Conclusion

The difference between finance leasing and operating leasing goes far beyond whether you will eventually become the owner of a vehicle or piece of equipment.

Each model allocates risks, costs, and obligations differently and may also have different accounting and tax implications.

Before signing an agreement, it is advisable to compare available offers and assess how the chosen model will affect liquidity, tax liabilities, and financial statements.

If you are considering acquiring vehicles, machinery, or equipment through leasing and are unsure which model would be more advantageous for your business, brandom is here to help.

Contact us to make an informed decision based on professional accounting and tax analysis, ensuring that your choice aligns with your company’s needs and long-term business objectives.