No matter how good your startup idea is or how great the products you create are, to thrive, your business needs the best equipment. Commercial equipment – computers for your staff, vehicles for your delivery service, or a professional kitchen line for your restaurant – optimizes your production, improves performance, and helps your business thrive. The problem with equipment, however, is that it requires a hefty amount of capital that most small business owners cannot afford to pay upfront. In this case, equipment leasing is the preferred solution. Here is what you need to know about it!
Equipment Leasing vs. Loans
Equipment leasing is a standard business practice where companies can obtain and use machinery without the burdening costs of a massive purchase. When it comes to leasing vs. loans, the critical difference resides in who owns the assets.
- With a loan, you borrow money (from a bank or loan company) to buy the equipment in your company’s name. Depending on your loan’s structure, you pay the money back over time, with interest.
- With a lease, you are using the equipment provided by the lessor (who still owns it) and pay rent for it. At the end of a leasing agreement, you return the machines to the lessor or have the chance to buy it, if agreed on in the contract.
As you probably know, business loans put a lot of pressure on any company. Obtaining a business loan is already a tough challenge. While SMBs make many mistakes, banks/loan companies are very strict with rules and eligibility criteria. If your loan request receives approval, most of the time, you have to come up with a down payment. Some types of loans feature variable interest rates, causing fluctuations in your monthly budget. Banks and investment companies usually ask you to secure your loan with guarantees and collaterals. If you miss your payments, you could lose the equipment or a piece of property or other assets.
With lease contracts, things are a lot smoother and less of a burden for business owners. When you decide to get a loan in the form of an equipment lease, you finance 100% of the assets’ value, without a mandatory or significant down payment. Leasing equipment comes with other advantages too. In most situations, the leased machinery counts as an asset on your balance sheet.
Heavy-duty machinery is often eligible for tax credits or deductible as business expenses. Moreover, depending on the company that facilitates your leasing contract, the hardware itself becomes collateral. You do not need to secure a deal with property or other resources as collateral.
Types of Leases to Consider
Now that you saw the critical differences between equipment leasing and equipment loaning, it is time to discuss the types of leases available to business owners.
An operating lease allows your company to use the leased machinery until the end of the contract, without you owning it. At the end of the term, you can return the equipment, buy it, or extend the leasing contract. Here are some other features of operating leases you should consider:
- They usually come with the lowest monthly payment among all lease or loan types;
- For the equipment maintenance – it depends on the contract. In some agreements, you have to ensure the proper functioning of the machinery in question. Other agreements stipulate that the lessors manage repairs, replacements, maintenance, etc.
Operating leases are the preferred choice among most business owners who want to return the equipment at the end of the term. If you work in a business where you need to improve equipment frequently, this type of lease will suit you best. It allows you to keep upgrading to newer, better models without the financial burden of keeping an old (and probably obsolete) piece of equipment.
Equipment Financial Agreement (EFA)
This type of lease resembles more of a traditional loan but comes with plenty of advantages. You most likely will have to come up with higher monthly payments, but at the end of the contract, you will own the equipment. If you are sure that you will use the same machinery in 2-3 years, this is a good leasing structure for companies relying on equipment that does not become outdated.
A capital lease is the cousin of the EFA. Its main trait is that, at the end of the contract, it includes an end-of-term bargain purchase option. You could buy your equipment for $100 or even $1. This type of lease structure works best with businesses that want to claim the benefits of asset ownership for accounting and tax purposes.
What You Need to Qualify for a Lease
When you apply for an equipment lease with a lessor, you need to take into consideration these factors:
- Type and costs of the equipment you want to operate with and whether the machines are new or used;
- You have to supply financial statements, along with business tax returns data for the past years (usually three);
- It would help if you had a good credit score to become eligible;
- Your lessor might consider other factors before making you a leasing offer: the risks pertaining to your industry, company’s history and experience on the market, other loans’ repayment history, cash flow, business plan, etc.
- Leasing companies could also ask you for different quotes from various equipment vendors to certify the prices and establish the value of the assets you need to lease;
- A lease’s interest rates usually vary depending on assets’ costs, your credit score, the devaluation rate of the equipment, etc. Interest rates could range anywhere between 8% to 30%.
- Most likely, in lease contracts, the machinery plays the role of collateral.
If you meet all the eligibility criteria, you could get the equipment in a short amount of time.
In a confusing economic landscape, equipment leasing became the go-to option for small and big businesses alike to operate equipment without the encumbrance of lengthy and substantial financial loans. As long as you present a solid business plan and transparent financial statements, most loan and leasing companies will help you buy the machinery that will sustain and develop your business.