If you’re considering an equipment acquisition for your business, it makes sense to compare the respective benefits of buying or leasing to determine which option is right for your company.
Before you buy or lease, give careful consideration to choosing equipment that will fit your project pipeline, foster productivity and position your business for long-term growth.
Evaluate the equipment your organization currently uses. Take time to consider where updating, supplementing or replacing your fleet of equipment could benefit your business. Also, determine if there are additional items of new or used equipment that will help your business operate more profitably or expand its capabilities.
New equipment is often more efficient and may cost less in near-term repairs and maintenance. Used equipment may require a lower initial investment. Whether the equipment is new or used, a loan or lease provides the ability to use the equipment’s revenue-generating capacity over time to help pay for it. Rather than tying up cash in a large purchase, loans and leases may help you preserve liquidity for other business needs.
When it’s time to acquire equipment, determine whether buying or leasing is going to serve your long-term interests most effectively. Here are three considerations:
Depending on the type of equipment, you may need to provide a cash down payment as part of a loan structure. Recently, however, some types of long-lived assets may be financed at 100 percent of the purchase price. Leases are structured to provide periodic payments based on an agreed-upon or estimated equipment value at the beginning and end of a lease term.
If you purchase equipment you bear the risk that it could decrease in value as a result of technological advances or changes in the needs of your business. If you lease the equipment, the transaction may be structured so the risks of obsolescence, devaluation and changing markets are borne by the lessor. Depending on the type of lease structure, there may be no obligation to purchase the asset at the end of the term of a lease.
With a loan and certain lease structures, the borrower is considered the owner of the equipment for tax purposes and often may claim depreciation expense and interest expense that could reduce a company’s taxable income. With an operating or true lease, the lessee typically claims no asset or liability on its balance sheet with the lease payments treated as an expense deduction on the lessee’s income statement.
As part of the evaluation of any lease or loan structure, you should consult with an accountant and tax advisor to be certain of the applicability for your company. Flexible payment terms and interim financing may also be available in lease and loan transactions.
A key advantage in leasing equipment is that the lessee decides what to do with the equipment at the end of the lease term. End-of-lease options for the lessee may include a) purchase the equipment, b) renew the lease or c) return the equipment.
The option to return the equipment can benefit a business because disposal of equipment can be uncertain, costly and time consuming. It also allows a company to focus on its core business versus managing non-core assets. Purchase options can be structured in a wide variety of ways, including fixed dollar amounts or fair market value.
Companies that do not have tax liabilities (because of net operating losses, etc.) may also benefit by leasing, where depreciation deductions can be taken by the lessor, which can be passed on to the lessee in the form of lower rental payments. Leasing may also assist with debt covenant compliance.
Loans also offer distinct advantages to companies that need capital equipment. For instance, loan payments can be based on fixed or floating rates, fixed principal and interest, or fixed principal plus interest. This allows a company to lock in rates and terms that fit its long-term capital or financing strategy. Some companies benefit from owning assets that are central to their business when the equipment has a useful life beyond the repayment terms of the loan. In such cases, it may make more sense to own the equipment and retain the benefit of depreciation expenses.
Once you’ve determined your equipment needs, talk with a banker who can connect you with an equipment finance specialist. Together, they can help you determine which of your financing options — whether it’s a loan or one of many types of leases — may fit your needs. An equipment finance specialist may also be able to assist with knowledge about equipment vendors or help in the review of competitive bids. Before making a decision about your equipment investment, be sure to consult with your accountant and/or tax advisor.
Nothing contained in this article should be considered tax or accounting advice, and you should consult with your own tax, accounting and financial advisors.
Darin Floyd is a territory manager for Wells Fargo Equipment Finance in Alaska. He can be reached at 907-265-2915 or Darin.E.Floyd@wellsfargo.com.