Operating leases in real estate refer to lease agreements where the property owner (lessor) permits a tenant (lessee) to use and control real estate for a defined period without transferring ownership. At lease end the property returns to the lessor. Operating leases are common for short- to medium-term space needs and assets businesses don’t intend to buy.
Definition
An operating lease is a contract that grants a lessee the right to occupy or use a property for a specified term while the lessor retains title, major repair obligations, and the risks and rewards of ownership. The lessee records rent expense for the term and does not acquire the asset as an owned property.
Key characteristics
- No ownership transfer: The lessee never becomes owner; the asset is returned at lease end.
- Shorter-term: Typically substantially shorter than the asset’s economic life (commonly under ~75% of useful life).
- Lessor responsibilities: The owner usually handles major maintenance, structural repairs and insurance requirements unless the lease specifies otherwise.
- Accounting treatment: Under ASC 842 (U.S.) lessees record a right-of-use (ROU) asset and a lease liability on the balance sheet, while lease payments are generally presented as operating expenses on the income statement.
- Flexibility: Easier to replace, relocate or scale space compared with buying or finance (capital) leases.
Common real-world examples
- Office space: A startup leases office floors for five years, fits out the space, operates day-to-day, and returns it when the term ends.
- Retail storefront: A clothing retailer signs a three-year mall lease; the mall owner retains ownership and manages common areas.
- Construction equipment: Short-term excavator rentals for a project—used during the project then returned to the lessor.
- Fleet vehicles: Delivery vans leased for two years, then returned or remarketed by the lessor.
Benefits of operating leases
- Lower upfront cost: No large capital outlay to acquire the property.
- Operational flexibility: Easier to change locations or scale footprint as business needs evolve.
- Reduced maintenance burden: Major ownership responsibilities typically remain with the lessor.
- Tax and cash-flow advantages: Lease payments are often deductible as operating expenses and preserve borrowing capacity.
How operating leases differ from finance (capital) leases
Unlike a finance or capital lease—where the lessee effectively assumes ownership risks and benefits and the asset may be capitalized as property—operating leases keep ownership with the lessor. For a quick comparison, see capital (finance) lease.
When to choose an operating lease
- If you need temporary or flexible space and don’t want a long-term capital commitment.
- If you prefer predictable rental expenses and less responsibility for major repairs.
- If preserving capital and borrowing capacity is a priority.
Practical tips for tenants
- Negotiate clear maintenance, repair and improvement clauses to avoid unexpected costs.
- Confirm who pays insurance, taxes and common-area charges—these can materially affect total occupancy cost.
- Build renewal, expansion and early-termination options into the lease if flexibility is important.
- Work with accounting advisors to ensure correct ASC 842 reporting and tax treatment.
Operating leases are a pragmatic tool for businesses that want the use of real estate without ownership. They provide flexibility, lower initial cost and operational simplicity—making them a common choice for offices, retail, equipment and vehicle needs.
