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About Equipment Leasing
Contents
- What Exactly Is Leasing
- What Kinds Of Businesses Lease Equipment
- Why Businesses Lease Equipment
- What Can Be Leased
- Does It Cost More To Lease
- How The Lease Process Works
- Who Qualifies To Lease
- What Kinds Of Leases Are There
- Who Do You Lease From
- What Happens At The End Of The Lease
Introduction
This page was put together to give an overview and provide straightforward answers to the most frequently asked questions about equipment leasing. Equipment leasing is one of the simplest, most popular, most practical, and yet most misunderstood methods of acquiring and using the modern, up to date tools your business needs to stay competitive and productive.
To get the most from this document, use the links above to go directly to the topics you're most interested in or read the document through in order to get a good overall view.
For more specific information tailored to your own business, use the information request form at the end of the document.
TecSource, Inc.
Since 1990, TecSource has been a source of information and guidance regarding all aspects of new equipment acquisition and has been helping businesses select and qualify for the most practical lease financing terms. Representing a wide variety of financial sources, from local leasing companies to large multinational financial services firms, TecSource is able to draw on a vast wealth of experience and specialized knowledge in customizing leasing terms for all kinds of businesses.
We hope this document will be helpful to you and answer any questions you might have. It's impossible, however, to cover every possible situation or question. If there's anything you'd like to know more about, please ask us . You'll receive prompt, courteous and accurate information at no charge; and there's never any obligation. We appreciate your interest.
Gerry Egan
President
TecSource, Inc.
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What Exactly Is Leasing?
An equipment lease is a contract for the use of a specific piece, (or multiple pieces of), equipment or furnishings for a specific period of time and for specific lease (rental) payments agreed upon in advance.
The lessor is the owner of the leased equipment and makes the initial cash investment for its purchase. The lessee is the user of the equipment and gets all the benefits of its use, just as if they owned it. Leasing lets you finance the use, without having to finance the purchase.
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What Kinds Of Businesses Lease Equipment?
All kinds and sizes of businesses; from the largest multinational companies and professional practices, to "mom 'n pop" businesses and individual proprietors; use equipment leasing as a way of acquiring the use of the tools or furnishings they need to be productive and profitable.
According to industry and government statistics, 80% of all businesses lease at least some of what they use; an estimated $147 billion dollars worth of equipment in 1995. Any growing business can benefit from using equipment leasing. It provides a practical way to stay abreast of the latest trends and use the newest, most productive equipment without draining valuable equity cash from the business or tying up important bank lines of credit. Tying up cash in fixed assets can severely restrict the ability to move quickly on other opportunities.
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Why Businesses Lease Equipment
There are as many reasons for leasing equipment as there are business who do, but some of the most often cited by those businesses are:
Make money using; not owning; new equipment
Remember, your business makes money by using your equipment, not by owning it; you don't have to own the electric company to benefit from electricity. A plan which lets you defray, delay or diminish costs by using someone else's equipment may be more practical than buying your own.
Spreading cost to future owners
As a business owner or partner, anything you buy, you pay for. Anything you lease, future partners or owners will help you pay for. Law firms, medical practices and other businesses that expect to grow and add additional owners or partners in the regular course of their business find equipment leasing is an ideal way to pass on an appropriate portion of the cost of new assets to those who will benefit from their use in the future.
Use cash for other reasons
Fast growing, successful businesses recognize the need to move quickly on income opportunities. They want their cash and bank credit lines available and not tied up in depreciating assets.
Faster write off
A properly written lease may offer you the fastest possible way to write off the costs of using new equipment. This lets you use money you would have paid in taxes to help keep your business modern and competitive.
Hedge against obsolescence
Also, by writing it off faster, you avoid making long term commitments to rapidly changing technology. Under the current MACRS, (Modified Accelerated Cost Recovery System), depreciation schedules, it may take you 6 or 8 years to fully depreciate the purchase of technology you may only use for 3 years. Computers, telecommunication systems, and medical equipment are all good examples.
Cash Flow
Equipment Leasing generally requires the least amount of up front cash to get new equipment in place and working for you. Just as you wouldn't pay a new employee their lifetime wages in advance, it's not necessary to pay up front for all the expected utility and benefit of new equipment or furnishings. Leasing them let's you pay for them as they work for your business.
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What Can Be Leased?
An amazing variety of things can be leased. Basically, anything that can be considered personal property, not permanently attached to real estate, can be leased. A good rule of thumb is; if it can have the same use somewhere else and can be moved there, it can be leased. Some of the most frequently leased items are:
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Computers
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Telephone Systems
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Furniture
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Medical Equipment
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Test Systems
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Photocopiers
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Lab Equipment
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Printing Equipment
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Work Stations
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Lift Trucks
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Data Links
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Production Machinery
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Shop Equipment
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Voice Mail Systems
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Shelving & Storage
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Aircraft
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Trucks
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And much more...
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Doesn't It Cost More To Lease?
Leasing is a practical way to use new equipment and compares favorably with other forms of financing, costing you about the same. That, of course, is no coincidence; the marketplace demands it and leasing rates are set accordingly.
Leasing companies look at what typical bank loan rates are and then factor in your interest deduction and depreciation to arrive at what a loan really costs you; your net after tax cost. They then set their rates to be competitive and work backwards, factoring in the greater deductions offered by the lease, to arrive at lease payments that will give you the same approximate net cost.
It's probably much like you analyze and set your own pricing, you have to be competitive. With 80% of all businesses leasing, it can't cost much more; and with that size market they don't need to charge much less.
Anyone who says that leasing always costs more is just as wrong as anyone who says it always costs less.
The truth is it costs you about the same to lease equipment as it might to buy it. Businesses lease for cash flow and other reasons as cited above.
What's the interest rate?
Because you're not borrowing any money when you lease equipment, there's no interest rate on the lease like there would be on a bank loan. You can, however compare the cost to lease with the cost of a loan.
Which one costs more?
To accurately answer that question you have to look at your net-after-tax-cost. The "list price" may not tell the whole story. Just as a $610 television in an electronics store appears to cost more than the $600 model sitting beside it; if there's a $10 rebate on it, then its net cost to you is the same. Not looking at the total transaction; the net cost; might "cost" you the choice you really want to make. Comparing leasing and purchasing is very similar.
At the end of this document is a request form for a sample Lease vs. Purchase cost analysis tailored for your specific business needs. There's no obligation, and it will give you a clearer picture of the true costs and choices available to you.
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How The Lease Process Works
Applications through approval
The equipment leasing process is pretty simple and straightforward. You select the equipment or furnishing you need from the supplier of your choice, then make an application to the leasing company describing what you want and where and how it will be used. The leasing company wants to know that you are able and willing to make your lease payments and so they do a standard credit check much like a bank would do.
Like a bank, they'll generally require the personal guarantees of the owners for newer businesses and closely held corporations.
Documentation and ordering equipment
Once the lease is approved, they'll ask the owner or president of the business to sign the lease agreement. Depending on the type of lease and the amount of leased equipment, the lease agreement may include one or more schedules listing the leased equipment and the terms.
Acceptance and lease beginning
Once the lease is signed and received by the leasing company with the appropriate initial payment and security deposit, the leasing company issues a purchase order to the equipment supplier you've chosen. When the equipment is acceptably delivered to you, they'll ask for a delivery and acceptance form to be signed. The equipment supplier is paid and your lease actually begins at that point.
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Who'll Qualify For A Lease?
Credit Qualifications Requirements vary from leasing company to leasing company but generally an established business with a good credit record can lease equipment. Most leasing companies would like you to have been in business for two or more years and have the same business banking account for that time. They'll ask the exact legal name of the business, when it was started and who owns it. They'll check the bank reference for any history of returned checks and several trade references for promptness of payments. Depending on the size or length of the lease or the age of your business they may need financial statements for the business, the owners, or both.
Personal Guarantees
Personal guarantees are generally required from the owners of closely held corporations or newer businesses. Even when not required, the most favorably leasing terms are always reserved for leases that are guaranteed. The guarantee serves a dual purpose.
Leasing companies generally do not do an in-depth analysis of your business plan, market potential or competitive position and they allow you to select the equipment and supplier you feel can best satisfy your needs. Leases also do not generally include the restrictive covenants and periodic management reviews typical in bank loan agreements. The leasing company relies largely, instead, on the commitment of the owners as an indication of the confidence the owners have in the business.
The personal guarantee indicates to the leasing credit manager a high degree of confidence by the owners in the future of the business and it's ability to meet its obligations.
In a case of a defaulted lease, the guarantee gives the leasing company the additional security that a bank typically has through a blanket type lien on all the assets of the business. Since the leasing company has only the specific equipment on the lease, the guarantee demonstrates the owners willingness to provide the lessor with a comparable level of security.
New businesses
Though most leasing companies prefer to work with established businesses, equipment leases can be done for new businesses, too. For new businesses, the financial strength of the owners will be of paramount importance and their personal guarantees will always be required. Additionally, the leasing company may ask to review business plans, pro forma financial statements, supplier contracts or other pertinent information. They'll frequently request resumes from the owners to show relevant prior experience.
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What Kinds Of Leases Are There?
Equipment leases can be written for a variety of terms but typically range from 12 to 60 months. The most popular term is 36 months. Most leases are monthly but quarterly and annual payment leases are also done.
Also available are step payments, wherein the lease payments start out low and increase each year; delayed payments, wherein the equipment can be installed and used for several months before the lease payments begin; seasonal payments, wherein the payment schedule can be set to match the seasonal cash flow of the business; and a variety of other customized terms. All of the above leases will fall into one of these broad categories:
True leases
Sometimes called "tax" or "FMV" leases, these are designed to meet IRS tax guideline definitions of a lease and may offer you the fastest way to "write-off" the use of new equipment. Leased equipment may be re-leased, purchased, returned or traded in at the end of the lease.
Abandonment leases
Frequently called "$1-Buy-Out" leases, these transfer ownership for a token sum at the end of the lease. They're basically a sales finance type contract. They offer the convenience of leasing for those not needing the full tax deductibility of their lease payments.
Operating leases
This type of lease can be designed to meet accounting standards for off-balance sheet financing according to FASB (Financial Accounting Standards Board) rules.
Sale/Leasebacks
In this type of lease, the lessor purchases the leased equipment from the lessee who leases it back from the lessor and continues to use it. It's an effective way to free up working capital which may be tied up in fixed assets.
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Who Do You Lease From?
Equipment leases are written by a variety of lessors including; individuals, banks, financial services firms and local and national independent leasing companies. Sometimes wealthy individuals will provide leasing in order to take advantage of the tax breaks available to lessors. Usually these leases are arranged through parties who already know each other or through independent brokers or agents. In order for the lessor to benefit from the tax breaks, however, it must be an arms length transaction, that is one in which the lessor has no interest in or direct connection to the lessee.
Local and national commercial banks frequently have leasing departments. Bank leasing companies can offer competitive pricing but generally restrict their leasing to existing customers of the bank. The bank may already have the necessary financial information about the lessee to process the lease request. Many bank leasing companies are not interested in individual lease transactions less than a hundred thousand dollars.
Some other financial services firms, such as insurance companies, commercial finance companies, and investment companies also offer equipment leasing services. Frequently their programs are specialized, focusing on limited groups of prospective lessees or specific equipment types.
Many equipment manufacturers also have captive leasing companies offering leases on the equipment they make. Independent equipment leasing companies offer a wide variety of services depending on their size and area of focus. By virtue of being local they may be most responsive to the specific needs of the customers in their areas.
Choosing a leasing company
Choosing the right leasing company is both important and difficult. Your best value in an equipment lease will always be the company most interested in and able to handle your specific needs; and that can vary from lease to lease depending on what you're leasing and the terms you're requesting. Because of the number and diversity of companies, however, it's hard to know who that will be for any given lease transaction.
A well established independent agent/broker keeps abreast of all the companies and what their particular specialties or interests are at any given time. Working much like an independent insurance agent, the leasing agent may survey a number of different companies before presenting you with the best opportunities among them. Because working through independent agents relieves the leasing companies of the expense of a field sales force or branch offices, many are able to offer the most competitive plans this way.
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What Happens At The End Of The Lease?
What happens at the end of your equipment lease is up to you. You may make that decision at the beginning by the type of lease you choose or, more likely, you'll want to choose a lease that allows you the flexibility of waiting until the end of the lease to decide. Generally it will be one of these choices:
- You may return the equipment at the end of the lease with no further obligation. Assuming the equipment is in normal working condition, your security deposit will be refunded to you.
- You may re-lease the equipment. Many leases offer annual or monthly renewals at re-negotiated lease payments. Because the leasing company has already gotten a good deal of their investment back, you can generally look for drastically reduced lease payments.
- You may trade in or upgrade the equipment for a lease on newer equipment. In this way you may effectively get the value of a trade in on equipment you didn't even own.
- You may purchase the leased equipment. In the case of the so called "$1-Buy-Out" lease, you'll take ownership for $1.00.
What's FMV?
On true, tax type leases, the purchase price is negotiated between you and the leasing company. Sometimes an independent appraiser can be called in to help establish a "Fair MarketValue". Frequently this is pre-estimated at 10% of the equipment's original price. Lessees who keep in mind that the leasing company doesn't want to end up with the equipment at the end of the lease generally are able to negotiate the most favorable purchase options.
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