Buyer's Guide
Equipment Leasing Introduction
Equipment leasing has become an increasingly popular option for companies that need new equipment. In fact, according to the Equipment Leasing Association, as many as eight out of ten U.S. businesses choose to lease at least some of their equipment.
An equipment lease lets you pass the buck - at least for a while. A third party funding source (the lessor) will purchase the equipment you want. As the lessee, you can use the equipment in exchange for regular payments made over a contracted period of time. Just like a bank loan, though, you need to have good credit and prove your ability to repay the lender.
This BuyerZone Equipment Leasing Buyer's Guide will help you understand why and how to set up a lease and what to look for when shopping for an equipment lease. You can also use a free vendor comparison tool to review the different types of equipment lease programs that companies offer.
Before you speak with a leasing company supplier, it's important to understand the variety of benefits leasing your equipment can provide, as well as the types available. The dollar threshold might even be lower than you'd expect! Get started here.
Why Lease Business Equipment
One of the biggest reasons to lease business equipment is that it offers fairly minimal upfront costs. Unlike bank loans that may require a substantial down payment, two advance payments are generally all that are required at the beginning of a lease. This lets you keep your capital in the bank while making important investments in your business.
In addition, some companies lease business equipment as a way to protect against obsolescence. When setting up the lease, take some time to evaluate the useful life of the equipment. Choose a term length that will let you upgrade to newer equipment before the old pieces are out-of-date.
Finally, leasing can lessen the burden that taxes have on your company's wallet. Depending on how your lease is structured, you may be able to fully deduct lease payments as a business expense, as opposed to depreciating the value of the equipment as if it were a capital expenditure. Talk to a tax professional to understand the impact this can have on your business.
What can you lease?
There are few limits to the type of equipment that can be leased. From everyday business essentials (furniture and phone systems) to industrial equipment (forklifts and conveyor belts) to office technology (copiers and LCD projectors), there is a wide range of products your business needs that you can consider leasing.
There are a couple of common features of commonly leased items. The total purchase is typically quite expensive, either per item or because you need many of them. Generally you won't find leasing options for purchases under $5,000, and most leases are in the tens or hundreds of thousands of dollars. Second is that it's something physical: a hard asset, not a "soft" asset.
While you can fairly easily lease business equipment, getting a lease to cover related soft assets or a soft purchase is much more difficult. Examples of soft or intangible assets include software, warranties, service, training, installation, and shipping costs. Why? Simple. From a lessor's standpoint, it's much easier to repossess a computer or copier in the event that you default on your payments. It is possible to get some soft costs included in a business equipment lease, but it's less common; you may need to turn to a business loan to acquire those soft assets.
You'll want to make sure to inquire early on about your lessor's policies if soft asset financing is important to you. You can also use a free vendor comparison tool to review the different types of equipment lease programs that companies offer.
Your next step is to consider the types of leasing available and related payment options. This combination of factors actually has the potential to provide some pretty valuable tax implications.
Types of Equipment Lease Financing
Although lessors may have different names for them, you'll find that there are basically two types of equipment lease financing:
- Finance leases - Also known as capital leases, conditional sales, or dollar buy out leases, these leases work best if you intend to keep the equipment at the end of the lease. The main advantage of this type of lease is that it gives you the option to purchase the equipment for a nominal fee, usually $1. Payment terms on finance leases tend to last close to the expected useful life of the equipment.
- True leases - On the other hand, true leases, also called tax leases, operating leases, or FMV (fair market value) leases, do not usually span the full expected life of the equipment. At the end of the lease, you can choose to walk away from the equipment or purchase it at fair market value. Payments on true leases generally tend to be lower than those on finance leases. This is because lessors have the opportunity to resell the equipment when the lease ends.
Tax implications
One of the main benefits of true leases is that you may be able to fully claim lease payments for tax purposes. In contrast, the IRS considers finance leases little more than installment purchase plans. As a result, although finance leases let you spread your payments over time, they are not tax advantaged in the way true leases are.
Again, it's important to discuss the tax implications of your equipment lease financing with an accountant before signing any contract.
Payment options
While fixed monthly payments are the norm, they are not your only option. Depending on your company's financial situation, your equipment lease financing can include one of several payment plans that may be more appealing.
If your company's cash flow ebbs and flows with the seasons, you might want to consider a skip lease. A lease with this repayment structure allows you to skip payments during slow months without being penalized. They are ideal for recreational and agricultural businesses that rely heavily on certain times of the year for significant portions of their revenue.
Step-up leases provide a solution for companies with limited cash that are depending upon the acquisition of specific equipment to increase revenue. This type of lease recognizes that the company will be able to handle increased lease payments over time, and keeps payments low at first then ramps them up according to a pre-determined schedule.
An alternative to a step-up lease is a 60- or 90- day deferred lease. Just as its name implies, this lease allows you to defer your first payment for 2 or 3 months. Usually you will not have to present a down payment with this option.
Ending your lease
Lease terms range anywhere from 6 to 120 months, although the majority fall between 12 and 60 months.
The lease term that you decide upon will depend heavily on what you decide to do with the equipment at the end of your lease. Usually, you have four choices. You can:
- Return the equipment to the lessor with no future obligation
- Renew the lease
- Purchase the equipment for a nominal fee or fixed price agreed upon at the lease inception
- purchase the equipment at fair market value
Before agreeing to any particular end of lease clause, carefully consider what state the equipment will be in at the end of the lease, and whether you'll want to obtain a newer model at that time. Also consider the chances that you'll want to get out of the lease early - if you think it's likely, be sure that your lease doesn't contain substantial penalty clauses for early withdrawal.
Comparing Leasing Companies
There are three main types of equipment finance providers you can turn to:
- Broker - Much like an insurance broker, an equipment leasing broker acts as an intermediary. The broker will take your lease requests to the banks and financial services companies most likely to agree to finance your asset.
- Captive leasing company - As a subsidiary leasing arm of a manufacturer or dealer, a captive leasing company's main purpose is to provide leasing to its parent company and/or dealer networks. Typically you'll only encounter them when you're obtaining a lease directly from a dealer.
- Independent lessor - Independent lessors are funding sources that lease directly to businesses. These can include banks, equipment lease specialists, and more diversified financial companies.
Often, the type of equipment finance provider you should turn to will depend on your situation. If you have a financial services provider that knows you and is familiar with your business, you may want to start with them. A manufacturer's captive leasing company is worth investigating if you've already decided exactly what equipment you're going to buy.
And in general, if you're not that familiar with leasing or with the product you need to lease, brokers are the best at providing multiple options and helping you get the equipment finance you need.
Choosing the best equipment finance company
It's important that you evaluate prospective lessors just as carefully as they're evaluating you. One way to approach the decision is too look for a lessor who will act like a partner. Instead of treating you like a faceless account, they should take the time to answer your questions and help you through rough spots, instead of repossessing your equipment or bumping up your rates the first time you're late with a payment.
You should also look for a leasing provider with the right experience. Some lessors specialize in specific industries or types of loan: doing a little research can quickly tell you if your potential lease providers have the expertise you require.
Check references
A standard approach to evaluating any business purchase decision is to check references, and this applies to leases, as well. Have prospective equipment finance companies give you contact information for four or five references, preferably businesses similar to your in size and industry.
When you speak to them, as questions such as these:
- Did the lessor treat you fairly?
- Did you get the right lease for your needs?
- Did the lessor provide help on your application and paperwork?
- Have you had any trouble making lease payments? How did the lessor react?
- Would you work with this equipment finance company again?
Getting Equipment Leasing Quotes
Once you've decided on business equipment leasing, it's time to get quotes. Four to six quotes can give you a good sense for what the market is charging. Before choosing business equipment leasing, be prepared to talk to several lessors and provide the following information:
- The cost of the equipment
- The length of the lease
- Whether or not you will purchase the equipment at the close of the lease
When shopping around for quotes, it's important to make sure you are comparing apples to apples. For instance, has the quote been calculated based on two advance payments and a security deposit, or on one advance payment alone?
Even though quotes are not 100% exact (a credit check needs to be done first to be certain), they are usually pretty accurate. In the end, payments may go up or down depending on how good your credit turns out to be.
Make sure it's clear how often and under what circumstances your rate can changed. Annual rates are preferable to monthly. Watch out for leases that give the lessor the ability to jack up your rates if you're late for one payment.
Applying for business equipment leasing
When choosing a lease, feel free to shop around for quotes - but don't complete a lease application unless you are absolutely sure that you'll lease through them upon being approved. Business equipment leasing applications are treated as credit applications - and since each application shows up on your credit report, excessive inquiries damage your chance of being accepted.
Surprisingly, an equipment lease can sometimes be more difficult to obtain than a traditional loan. Many business equipment leasing companies will not even consider your application unless you have two years experience; others have absolute minimum credit scores of 600 or more. Before submitting an application, ask what the lessor's requirements are. If you don't meet them, you should probably look for a business loan, instead.
After you've submitted your application, an answer won't be long in coming. Generally it takes less than two days to find out whether you've been accepted.
Business Leasing Tips
Lower the purchase price
Business leasing isn't very tricky: since equipment leasing generally involves straight financing, the best way to lower your lease payments is to bring down the purchase price of the equipment you intend to lease. Use those negotiating skills!
Lower the rate
Another way to lower business leasing payments is to negotiate a lower rate. Rates for small ticket leasing (under $100,000) go across the board and range anywhere from 10-19%, depending on such factors as credit worthiness, the size of the lease, and the area that you live in. You'll find that middle and large ticket leasing tend to be more competitive at 6-8%. On average, brokers tend to make 3-5% above the rate given by the funding source.
Drop the soft assets
Lastly, calculate your lease with and without the soft assets. Although it may be more convenient to pay one bill every month, you'll probably be able to save hundreds, if not thousands of dollars by cutting out the soft assets. You can always turn to a small business loan to finance soft assets associated with a major equipment lease. If you must lease the soft assets, be sure to find a business leasing company that is used to handling them.