Glossary

A comprehensive list of common industry terms commonly used at Cat Financial.

 

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Accelerated Payments

A payment schedule where payments decrease over the term (example: 50% in year 1, 30% in year 2). This method may eliminate a down payment requirement. It will also reduce the amount of interest charged because the loan is repaid at a faster rate.

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Advance Payments

A technique used in leasing to reduce the monthly payments. The effect is similar to a down payment in a finance transaction.

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Alternative Minimum Tax (AMT)

With the 1986 Tax Reform Act, a new tax basis was created for businesses. This tax is to ensure that a minimum tax is paid by profitable companies if extensive use is made of tax preference items (primarily depreciation). The specifics of the AMT are very complicated. However, leasing may be a way to limit a company's exposure to the AMT.

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Amortization

The process by which debt is reduced over a set time period. In a loan, it is the portion of the monthly payment that is not interest and is used to pay back the principal.

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Application Survey

An evaluation which analyzes the customers operation and how the equipment will be employed. It includes equipment application usage, maintenance, and environment. The survey, administered by the dealer salesperson, is used to establish the equipment's residual value, and to calculate payment on leases with option or balloon.

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Assignment

Refers to the written transfer of a security interest in equipment on a finance contract to third party, i.e., a dealer assigning his rights and interests in a conditional sale contract to a credit institution.

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Balloon Payment

A final installment at the maturity of a finance contract which is greater than the regular installment.

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Bargain Purchase Option

In generic terms, a purchase option for less than Fair-Market Value. The technical definition (for FAS-13 purposes) is: A provision allowing the lessee, at his option to purchase the leased asset for a price that is sufficiently lower than the expected fair-market value. Used mostly in conjunction with non-tax lease type financing.

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Base Rate

The periodic cost (usually monthly) to lease or rent a unit of equipment. Taxes may or may not be included.

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Book Value

The portion of the original value of an asset that is still undepreciated, that is, the amount that has not been written off and remains on the company's books.

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Capital Lease (also called finance lease or non-tax lease)

A term from FASB Accounting Rules for leasing. For accounting purposes a finance lease or tax lease is defined as either a "capital lease" or an "operating lease." A capital lease must be shown in the asset and liability sections of a balance sheet. An operating lease is not shown on a balance sheet hence the term off balance sheet financing. However, operating lease obligations of 12 months or longer are shown in the footnotes to the balance sheet. The following four tests are used to determine whether a lease agreement is a capital or operating lease for accounting purposes: (If the lease meets any of these criteria, it is a capital lease, otherwise it is an operating lease.)

  • The lease transfers ownership to the lessee at the end of the lease term.
  • The lease contains a bargain purchase option. For accounting purposes this means a price sufficiently lower than the expected Fair-Market Value so that at the inception of the lease, the exercise of the option is reasonably assured.
  • The lease term is equal to 75% or more of the estimated economic life of the leased property (economic life in the hands of one or more users with normal repair, maintenance, and overhaul).
  • The present value of minimum rentals, plus any guaranteed residual value, is equal to 90% or more of the fair value of the property (fair value = cash price . . . the discount rate used to determine the present value of rentals is the lessee's incremental borrowing rate, which is his cost to borrow a similar sum for a similar term).

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Collateral

Real or personal property pledged to secure a loan, generally the equipment that is financed or leased.

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Conditional Sale Contract

See Security Agreement. Also, see U.C.C.

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Credit Line

A dollar limit of funds preapproved to loan to an individual or company.

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Credit Rating

A composite evaluation of a person's or corporation's financial strength and trustworthiness.

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Debt Service

Payments of principal and interest to lenders.

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Default

Refers to the inability of a customer to meet the terms of a finance or leasing obligation. May result in repossession of the equipment.

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Depreciation

Normally, charges against earnings to write off the cost of an asset over its estimated useful life. It is a bookkeeping entry and does not represent any cash outlay nor are any funds earmarked for the purpose. Also, this is the method by which the value of an asset is reduced over time. There are several methods of depreciation (ex: straight line, double-declining balance, sum of years digits).

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Down Payment

Technique used in a financial transaction to reduce the monthly payments.

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Estimated Residual Value of Leased Property

The estimated fair value of the property at the end of the lease term.

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Factor

A multiplier applied against the selling price to determine a payment. Factors include the interest rate. It can be determined by dividing the payment by the price.

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Fair-Market Value (FMV)

Price a willing buyer will pay and a willing seller will accept for the equipment.

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Fair-Market Value Purchase Option

Option to purchase property at the end of the lease term at its fair-market value.

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Filing

The filing with appropriate governmental authorities (usually Secretary of State, County Auditor or both) of a Financing Statement under the Uniform Commercial Code (U.C.C.) to protect a security interest in property sold under a financing arrangement. All financing contracts are considered security agreements under the U.C.C.

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Finance Lease

See Capital Lease.

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Financing Statement

A notice of a security interest filed under the U.C.C.

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Fixed Price Purchase Option

An option to purchase at a predetermined fixed price as shown in the contract.

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Floating Interest Payments

Tied to a "Prime Rate" of interest or other benchmarks such as Commercial Paper or Treasury Notes, floating interest payments are the result of an agreement wherein interest charged goes up or down in proportion to changes in the prime rate. For instance, Prime plus 2 would indicate a rate of interest two percentage points above the prime rate.

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Full Payout Lease

A lease arrangement where the customer agrees to pay the full purchase price, plus interest, on an installment basis over a given term and exercise the $1 purchase option at the end of the contract.

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Inception of a Lease

The date the lease commitment or lease agreement is signed.

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Installment Sale

Sale of equipment with purchase price payable in installments. Title passes at the inception of the contract.

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Insured Value/Casualty Value

A schedule included in a lease which states the agreed value of equipment at various times during the term of the lease, and establishes the liability of the lessee to the lessor in the event the leased equipment is lost or rendered unusable during the term due to a casualty.

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Interest

The charge for the use of money. Two primary methods of calculating interest exist. Cat Financial, calculates interest using the simple interest method. Simple Interest (also referred to as Annual Percentage Rate or APR): A charge for the use of money based upon the actual amount of money and payable periodically during the term of the loan. The simple interest rate is applied periodically to the unpaid loan balance.

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Lease

An agreement in which one party (the lessee) gets use of the property of another (the lessor) in exchange for a fee (usually money). Title to the property remains with lessor during the agreement. Term is normally 3 to 7 years. There is no legal difference between the terms rent and lease.

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Lease Rate

The equivalent simple annual interest rate implicit in minimum lease rentals or the lease factor.

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Lease Term

The fixed, noncancelable length of time for the lease.

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Lease with Purchase Option

A contract whereby the lessor grants to the lessee the privilege of purchasing the leased equipment at a specific time(s) during or following the term of the lease. Finance Lease purchase option: an option at less than the fair-market value, construed as a sale. Tax Lease (also called a true lease) purchase option: an option at fair-market value or a fixed price generally construed as a fair retail price at the termination of the lease. Not considered a sale.

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Lessee

The user of the equipment being leased.

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Lessor

The owner of equipment that is being leased to a lessee (user).

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Level Payments

Equal payment over the term of the contract or lease.

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Loan Balance

Outstanding amount of loan on equipment financed at any given time during the term of loan.

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Master Lease

A lease that allows a lessee to add equipment under the same basic terms and conditions without negotiating a new lease contract. Simplifies documentation on additional equipment leased.

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Net Lease

In a net lease, payments are payable net to the lessor. All costs in connection with the use of the equipment are to be paid by the lessee and are not a part of the payments. For example, insurance, maintenance and taxes are paid directly by the lessee. Most capital leases and direct financing leases are net leases.

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Non-Tax Lease

A lease which does not meet the guidelines of the Internal Revenue Service for a tax lease. See Capital Lease.

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Operating Lease

See Capital Lease.

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Present Value

The value today of an amount of money to be paid in the future. Present Value depends on the interest rate assumed to discount the future values.

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Prime Rate of Interest

The simple interest rate charged by banks to the most credit worthy companies on a short-term commercial basis.

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Principal

The actual amount financed or the unpaid balance, excluding interest, on a finance contract.

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Purchase Option

An option for the lessee to purchase leased property at the end of the lease term. In order to protect the tax characteristics of a tax lease, the purchase option cannot be at a price less than the fair-market value at the time of purchase. The option on a finance lease (non-tax) must be a bargain option.

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Renewal Option

An option to renew the lease at the end of the initial lease term. Here, too, care must be used in granting a renewal option for a fair rental value. If it is not done properly, it may later be ruled that the lease is not a true lease and tax advantages lost and tax indemnity clauses activated.

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Rent

The money paid to lease another's property. There is no legal difference between rent and lease.

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Rental Agreement

An agreement to pay for use of another's equipment. Similar to a lease, except with rentals, maintenance is usually performed by the lessor and the cost of the maintenance is included in the payments.

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Rental

Rental of equipment, usually fully maintained by the owner, for temporary requirements on a daily, weekly or monthly basis. Agreement cancelable upon relatively short notice by either party.

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Residual or Residual Value

The value of equipment at the conclusion of the lease term. Also, may be used to refer to that portion of the delivered value of equipment not paid for during the term of the agreement.

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Residual Risk

Risk taken by the lessor or lessee who loses equity or profit if the value of the equipment at the end of the lease term is less than estimated.

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Rule of 78s

A means of calculating the payoff on a financial contract. The calculation method front loads interest so that during the early months of the contract a larger amount of interest is due. This method is not used by Cat Financial.

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Salvage Value

The minimum value for a depreciable asset. After sufficient depreciation is taken such that cost less accumulated depreciation equals salvage value, no more depreciation may be taken. Not the same as residual value.

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Seasonal Payments

A payment to coincide with a user's source of income due (i.e. sale of crops, livestock, lumber, etc.).

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Security Agreement

A term from the U.C.C. The Security Agreement is an agreement that creates or provides for a security interest, whereby the seller is to retain financial ownership in the equipment. In the event the customer defaults under the terms and conditions of the contract, the seller may initiate legal action to repossess the equipment. Conditional Sale Contracts, and leases with the options to purchase for a nominal sum, are examples of security agreements.

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Security Interest

The right of the lender to recover the property leased or financed in case the borrower defaults or goes bankrupt. The property cannot be seized and sold to settle the borrower's debts, but must be returned to the lender. This security interest must be stated in the loan documents and perfected by filing a U.C.C. financing statement.

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Selling Price

The price at which equipment is purchased, which may or may not include a discount, a trade-in allowance, freight and taxes, but excludes any interest or finance charges.

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Skip Payment Agreement

A financing arrangement where payment timing is set to approximate expected cash flows. Generally used with seasonal business.

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Sub-Lease

A transition in which leased property is released by the original lessee to a third party, and the lease agreement between the two original parties remains in effect.

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Tax Lease (also called Operating Lease or True Lease)

A lease which meets the guidelines of the Internal Revenue Service for a lease.

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Term

The fixed, noncancelable period of time for the contract.

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True Lease

A contract whereby the lessor grants to the lessee the right to use the lessor's property for a stated period of time. At the end of the lease period, the property is returned to the lessor. See Capital Lease for comparative explanation.

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Uniform Commercial Code (U.C.C.)

The uniform body of law governing commercial transaction in effect in all states.

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