Whether financing equipment through a lease or loan, each has its advantages.
“In evaluating your options, it is important to look at each alternative to determine which will best balance usage, cash flow and your financial objectives,” says William G. Sutton, CAE, president and CEO of the Equipment Leasing and Finance Association (www.elfaonline.org), the trade association that represents companies in the equipment finance sector, which includes financial services companies and manufacturers engaged in financing capital goods.
To help determine the most appropriate option, he advises considering the following questions:
- How long will the equipment be required?
Generally speaking, if the length of time the equipment is expected to be used is short term – which usually means 36 months or less, leasing is likely the preferable option, he says. Equipment expected to be used for longer than three years could be a candidate for either a lease or a loan.
- What is the monthly budget for the equipment?
As with any ongoing business expense, consider the monthly cost for a piece of equipment and how it fits into the budget. In general, Sutton says, leasing will provide lower monthly payments.
- Will the equipment become obsolete while still needed for the operation?
Protection against obsolescence “is one of the many benefits of equipment leasing, since the risk of obsolescence is assumed by the lessor,” says Sutton, noting that certain lease financing programs allow for technology upgrades and/or replacements within the term of the lease contract.
- How much cash would be required up front for a lease and for a loan?
Leasing can often provide 100 percent financing of the cost of the equipment. Loans usually require a down payment. “Ask how much of a down payment is needed and assess the availability and desirability of allocating company capital for that down payment,” he counsels.
- Can the depreciation be used or would a greater benefit come from expensing the lease payments?
“A loan provides you with the depreciation tax benefit,” says Sutton. “With a lease, the lessor owns the equipment and realizes the tax benefit, which is usually reflected in a lower monthly rent payment for your business, as well as the ability to expense the payment. In many instances, if your business cannot use the tax benefit, it makes more sense to lease than to purchase through a loan because you can trade the depreciation to the lessor in exchange for better cash flow.”
- How will a working capital facility be impacted?
Many businesses have an aggregate line of credit through a bank that they can use for inventory purchases, improvements and other capital expenditures. “Depending on the lending covenants, it is often possible, as well as preferable, to preserve your bank working capital by leasing equipment through an equipment finance provider,” he says.
- How flexible do you want the financing terms to be?
A lease can provide greater flexibility, says Sutton, since it can be structured for a variety of contingencies, whereas with a loan, flexibility is subject to the lender’s rules.
“If your business has continuing use for the equipment at lease termination, extended rentals, purchase options, trade-ups and return options are available. The lease term allows your business to match all expenses to the term of the equipment’s use, including income tax expense, book expense and cash expense.
“Most importantly, the expense stops when the equipment is no longer required.”
- Do you anticipate the need for additional equipment under your financing agreement?
If a business is planning for growth, it can enter into a master lease that will allow it to acquire multiple pieces of equipment under multiple schedules with the same basic terms and conditions, he says. “This provides greater convenience and flexibility than a conditional loan contract, which must be renegotiated for additional equipment acquisitions.”
These are some of the key considerations that should go into the lease versus loan decision-making process. For a lease/loan comparison and online tools, visit www.equipmentfinanceadvantage.org/ef101/llc.cfm.
“When making the decision between a lease and a loan, it is highly recommended that you consult with your accounting professional, as well as draw on the resources of your equipment financing provider to enable you to secure the best possible terms for your lease and/or loan,” concludes Sutton.
