Your business needs new equipment. Should you lease it, get a loan, or use your line of credit? In this post, we’ll look at the pros and cons of equipment leasing and bank financing, and some tips to help you decide which financing option offers better value for your business.
Pros of Equipment Leasing
Equipment leasing is like a rent-to-own scenario. You get to use the equipment immediately, make predictable monthly lease payments for the lease term, and then buy out the equipment at the end.
Here are 7 benefits of equipment leasing for your business.
1. Maintain cash flow
Equipment leasing offers flexible terms to meet your cash flow needs. Keep your cash in the bank and get the equipment you need. The vast majority of our business clients realize significant tax advantages from lease financing by writing off the “rental” payments. Consult with your accountant for details.
Equipment leasing makes monthly expense planning and budgeting simple. Low, fixed monthly payments mean you have a clear picture of your monthly expenses.
3. No down payment & minimal security required
In most cases, an equipment lease does not require a down payment, personal guarantee, nor a General Security Agreement (GSA). Typically, the leased equipment acts as security or collateral in the lease agreement.
Diversifying your debt is as important as diversifying your investments. It has proven to be advantageous to many of our clients.
As the old adage says, “Don’t keep all your eggs in one basket.” If one bank holds “all the eggs”, there’s not a lot of leverage.
Equipment leasing rarely requires you to submit financial statements throughout the course of the lease contract. This only happens if your equipment lease is funded directly through a bank.
Also, when you lease through a lease coordinator, you enjoy the convenience of having a professional take care of negotiations on your behalf and help with gathering and submitting the necessary documentation.
Lease documents are legally binding and hold both the lessor and the lessee accountable.
Equipment leases usually allow for flexible payment structures that work with your business needs. For example, seasonal businesses like landscaping can benefit from a seasonal lease payment structure.
Cons of Bank Financing
Bank loans and lines of credit are the most familiar forms of financing. Business owners often opt for these simply because it’s what they know. But there are significant downsides to these types of financing.
1. Line of credit = demand loan
A line of credit is actually a “demand loan”. This entitles the bank to reduce or revoke the loan at any time.
2. Unpredictable, fluctuating rates
Rates offered by banks are constantly changing. This makes bank financing less predictable than equipment leasing. Banks often charge fees and may require floating rates for loans. Interest rates on a line of credit are also subject to fluctuations.
3. Credit exposure & limited working capital
An equipment loan with a bank affects your credit exposure and may limit your working capital or other funding options you may require.
4. Stiff structures
Banks tend to be less flexible than equipment leasing in the structuring of financing programs and payment schedules. This is difficult for some businesses with fluctuating revenue patterns (such as seasonal industries like landscaping).
5. Costly convenience
It may seem that bank financing is more convenient because the bank already has the necessary information (and, in most cases, a lot more information than what lease financing requires). So they don’t need you to provide it to them all over again. They have a complete picture of your personal net worth because of your mortgage, investments, RRSPs, existing loans, etc.
But a bank typically requires you to submit financial statements regularly (quarterly, or even monthly). This is time consuming and an added expense if you rely on an accountant.
6. Higher collateral
Banks require a greater degree of security than equipment leasing in order to provide you with financing. It’s not uncommon for them to demand 2-3 times the amount they are lending you as security against your loan. They usually require a personal guarantee and will often file a GSA against your company.
“When entering into a GSA with your bank, you or your company will often be asked to provide security over all of your present and after-acquired property, meaning the bank will have security over everything you own now and everything you will own in the future.
…[I]f you are in default of your obligations, the secured party can take possession of and sell the secured property. If a Company defaults on a GSA, the secured party can appoint a receiver… to manage the company’s affairs. The receiver is then able to sell off Company assets in order to repay debts to the secured party.” (Source)
Equipment Lease or Bank Loan? Which is better for your business?
Equipment leasing is not for everyone. The same is true for bank financing. So, how do you know which financing option is better for your business? What offers the best value for your business?
1. Look at the big picture.
Before you go any further, you need a clear picture of your business goals, your equipment needs, and your available resources. Review your business plan and your current projections (in all areas – financial, human resources, etc.). Based on this information, answer questions like:
- What is your equipment budget? How much can you afford to spend?
- How reliable is your working capital?
2. Do some research.
Armed with the facts about your business, it’s time to explore the options available to you.
- What will the equipment cost?
- Can you find it used or refurbished?
- What is the cost of shipping and delivery?
- Is customization, training, and/or setup required? If so, what is the cost?
- What kind of maintenance is required for the equipment?
- Will your business experience downtime during the transition to the new equipment? If so, what will it cost you?
- What’s the warranty on the equipment?
- What’s the lifespan of the equipment?
3. Crunch the numbers.
With a detailed picture of the cost of the equipment, you can get an accurate picture of what your financing options are.
- What are the tax implications of buying the equipment?
- What are the tax implications of leasing the equipment?
- What is the impact of each financing option on your cash flow projections?
- Is a down payment required?
- What kind of insurance is required? What will it cost?
- What financing terms are available?
- What is the cost of financing? (In other words, on top of the actual cost of the equipment, what will it cost you to finance the equipment?)
Consult with your accountant for details about your current standing and the impact of your potential financing options.
Tips About Equipment Leasing vs Bank Financing
Before you make a final decision, here are some additional details about both equipment leasing and bank financing. Take these into consideration, too.
Cash Flow Advantage
In general, equipment leasing is a better option to manage your cash flow. With lease financing, the equipment can pay for itself as you use it.
The advantage of no down payment is appealing, and the ability to spread out the cost in equal payments over time is sometimes the only way a business can afford to acquire necessary equipment.
With bank financing, you own the equipment immediately. With equipment leasing, you get to use the equipment immediately, but legally the lender owns the equipment until the end of the lease term. Then you can buy it out and it’s officially yours. So with both options, you ultimately get to own the equipment.
You Can Finance Used Equipment
Both equipment leasing and bank financing are available for used equipment. However, for used equipment, lease financing is generally easier to secure than bank financing.
Private Sales & Sale Leasebacks
Equipment leasing offers a sale leaseback option, giving you all the advantages of leasing even for equipment you may have already paid for in cash. For example, maybe you spot a great deal and have to purchase right away, but you realize you’d rather have that cash available for other uses. Contact us for more details.
Selling the Equipment
You can sell the equipment whether you purchased it through bank financing or leased it through equipment leasing. In both cases, the bank or lender must be paid out first. You get to keep any profit from the sale, or you must pay any shortfall from the sale.
With equipment leasing, you actually have more options.
- You can trade up or trade in the equipment (on approved credit)
- Another business can assume the lease (on approved credit.
Lease assumption is especially handy when a business owner is selling their company. The new owner may assume the lease on approved credit as part of the business purchase.
Get Equipment Financing Expert Advice
Equipment financing is not an all-or-nothing game. It’s perfectly acceptable to combine all forms of financing, if that’s what makes most sense for your business. Reevaluate every time you need financing. The best option depends on many factors, and what’s best one time might not be the best next time.
Do you need some help to decide which form of financing is right for you? Have questions about equipment leasing vs bank financing? Contact a specialist at Lease 1 Financial today. We’re here to help your business thrive!