This is a transaction involving the simultaneous sale of an asset and the leasing back of the property to the seller by the purchase for a long term (long period of time). The sale-lease back can be traced back to early 1940’s in America.
It occurred due to:
- Institutional investors were limited by state laws to loan to value ratio of 66% to 76%. A method was required which was legal and would increase the amount of money that could be loaned against real estate security.
- Corporations had large sums of money tied up in real estate and were anxious to put those funds to work in a more advantageous and active way. The sale lease back technique therefore appeared as an alternative to mortgage and as a means of increasing the amount of financing available for any single real estate transaction. It also presented a feasible and workable method of exchanging ownership but not possession for costs. It also provided a way of financial institution continuing to lend even when they have exhausted that lending limit.
There are 2 types of sale lease back arrangements. These are:
1 Prime Credit Transaction
In this case the tenant is a large and prominent corporation and in the past has conducted a number of sales lease back transaction e.g. a petrol station with a sale lease back with an oil company.
In such a transaction 100% financing is usually available since the purchaser is entering the transaction on the basis of the seller’s credit rating but not the value of the asset.
2 Reality Transaction
Here the purchaser (the leasor) is investing on the basis of the property without much regard for the seller (lessee) credit status. The asset must therefore be a general-purpose asset. Usually the purchase price is about 80% to 90% of the property’s value rather than 100%.