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You’ve done your research and decided to finance your next equipment acquisition. Now you’re wondering whether you should enter into an equipment lease or instead secure a loan.

Both options offer advantages, but each has financial nuances that may affect your business’ finances differently. 

Similar, Not the Same

First, be sure to understand the differences between the two options. While there are similarities, the differences may determine the best option for your business.

Equipment loans are based on fixed rates for repayment between 12 to 60 months. The product type, hours on the machine, brand and price all will be considered by the lender when determining rates and loan terms available for the purchase. The rate and the term will drive the underlying payment. In addition, with equipment loans, the borrower is the owner of the asset throughout the term and at the end of the term.

With equipment leasing, the equipment is sold to the leasing company, which then lends it to the user (i.e., lessee) in exchange for periodic lease payments. This is often based on terms specific to the length of a project, or as long as the user needs the machine.

Because this is a lease, there is no interest rate but rather a payment that’s heavily dependent on the term as well as the value of the underlying asset at the end of the term. Therefore, the more reliable the make and model of equipment, the higher the residual and the lower the payment. This option typically carries a lower payment than a loan, but the user doesn’t own the asset. In addition, at the end of the term, the user has the right to either purchase the asset, continue to lease the asset or return the asset to the lender.

With both equipment loans and leases, original equipment manufacturers (OEMs) can be a good go-to resource for getting the best financing deal. Although the OEM may not be the lender, it does offer services to help customers, such as access to reputable funding partnerships, subsidized retail programs, enhanced residuals or balloons, customized plans, competitive interest rates and custom-tailored payment plans. By going through an OEM, you can take advantage of any special pricing or promotions being offered.

Compare the Choices

But before you secure financing, look at your business and financial models and ask questions such as: 

  • How long will it take to pay back the loan?
  • How much will it cost to borrow the money?
  • How much money must be put down on the purchase?
  • Do I want to own the asset for tax purposes?
  • How sensitive is my cash flow for equipment purchases?
  • Does my desired equipment have a high rate of obsolescence?
  • Do I want to possibly claim my tax benefit in the short term through leasing or the long term through depreciation?

For example, if your answers indicate that you prefer to keep your cash for other business expenses or lower payments, and tax benefits are not a high priority, it may suggest that leasing may be more optimal for your business.

Two Options, One Choice

Both options will preserve your cash flow and keep your business financially flexible, but your financial situation and equipment needs will determine which choice is right for you. 

The pros of equipment loans are that the interest fixed rates translate to a fixed payment stream, while the ownership of the asset translates to tax-deprecation benefits.

The cons are that there isn’t a return option once the loan is paid off, and if you’re purchasing older or used equipment, interest rates typically are higher than for newer equipment. Regardless of whether the underlying collateral is new or used, there may be prepayment penalties if you wish to pay off the loans early, although by going through an OEM-sponsored financing program, the OEM may be able to assist you in negotiating these penalties.

In comparison, the pros of equipment leasing are that leases do not require a down payment, and your business will have the option to return the equipment or purchase it at the end of the lease. 

The cons of equipment leasing are that you don’t own the assets, so you have to determine what your business must do at the end of the term with the equipment, and that lenders might not be willing to offer lease options on mixed-fleet or used-equipment purchases. Further, significant penalties or costs may occur if you want to end the lease early, as the lender must recapture its lost tax-depreciation benefit.

To sum it up: If your equipment requires regular upgrades, the return option from leasing is a major benefit to consider. But if you prefer ownership and the corresponding tax benefits, a loan may be your best alternative. 

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