Is It Better to Lease Or Buy Equipment?
From StartupJournal.com
So much for cheap computers. That new laptop is going to cost about $3,800 with the extra memory, big hard drive and other options you want. The 17-inch flat-panel monitor you'd like for the days you have to spend a lot of time working at the computer will set you back another $800 or so. Sure, you could buy something less powerful or do without the flat-panel monitor, but if you do, you know you'll be sorry. So what's the best way to pay for all this power and convenience?
Charge cards, bank loans (if you can get one) and savings are the traditional answers for home businesses. But there's another option: leasing.
Leases, like loans, let small businesses spread out the cost of equipment over a period of time, thus freeing up cash so it can be used for purchases that can't be financed. They also can be easier and faster to secure than a conventional loan. "No financials are required for amounts under $50,000, and you can often get approval in 24 hours," says Nick Pullen, chief executive officer of Leaseloan.com.
But unlike a loan, you don't actually own the equipment during the term of the lease. When you lease equipment, the leasing company owns it for the duration of the lease contract. At the end of the lease, depending on its terms, you either return the equipment to the leasing company or buy it for a flat fee or the fair market value.
Types of Leases
Finance leases with a flat-fee buyout are similar to loans. At the end of the lease term, you pay a minimal amount -- often $1 -- to buy the equipment from the lease company.
Fair market value (FMV) leases are more like rentals. At the end of the lease term, you either return the equipment or buy it at its fair market value. Depending on the type of equipment and lease terms, the fair market value payout could be 15% of the original cost of the equipment. With FMV leases, the lease payments are usually tax deductible over the life of the lease.
FMV leases are usually less popular with new companies than finance leases. "Home businesses usually choose the finance lease with a $1 buyout," Mr. Pullen says. They want to own the equipment at the end of the lease without making a significant additional payment.
But FMV leases can be more beneficial for some businesses, since the lease payments are fully tax deductible over the term of the lease. That's a boon for businesses such as Web-hosting companies that may need to purchase more equipment in a year than they can expense or that has a shorter useful life than the Internal Revenue Service depreciation tables say it does, such as computers.
Finance leases don't have the same tax advantage. With a finance lease, you have to expense the equipment in the first year of purchase or depreciate it over the IRS "useful life."
Given all your purchasing options, when should you lease, and when should you use other finance methods or pay cash?
Pros and Cons of Leasing
"Leases for some small-office equipment aren't much different than a loan, except the leasing company holds the title to the equipment until the lease is satisfied," explains certified public accountant Jack Slick of Flurie and Slick CPAs in Hagerstown, Md. From a financial standpoint, leasing equipment makes sense for small offices in only two instances. One is when a leasing company, such as GE Capital, is an arm of a company that makes the equipment and offers attractive finance rates. The second is if you don't have a more affordable means for financing the purchase. For instance, leasing would make sense if you can't get a bank loan, or your credit-card company charges a higher interest rate than the leasing company does.
The cost of the lease isn't the only issue to small and home businesses, however. Concern about maxing out personal charge cards sometimes comes into play.
Christine O'Brien, owner of DesignWrite Presentations in Peabody, Mass., chose to lease a computer from Dell because the payments would be easier for her to handle. "The computer cost close to $3,000, and I didn't want to take that chunk of money out of my business account," she says. "I had returned to college and was charging some of my education expenses, so I didn't want to put the computer on my charge card, too. I figured the monthly lease payments of $75 would be easier for my budget to swallow." And they were at the time. But now she says it's frustrating, because she's locked into the 48-month lease and sees computers on the market that are more powerful for much less money.
Indeed, the speed with which computers become outdated is one reason many people avoid leasing computers for home businesses. Janice Feldman, of Feldman Transcription service in Southern California, says she would never consider leasing a computer. "I'd always want a new faster, state-of-the art computer with a larger capacity before the lease ran out," she says.
But leasing doesn't necessarily mean you have to be stuck with outdated equipment. Some finance leases (specifically, lease-to-buy contracts) will let you pay off the lease in advance without penalty, just as you would a loan. Once you pay off the lease, you own the equipment and can sell or dispose of it in any way you want.
There are other reasons for leasing, too. Edwin Maddrey, managing partner of Capital Strategies, leased computers and a photocopier when he moved his public-relations office out of his home into conventional office space in Charlotte, N.C. He pays $215 a month for a photocopier and up to 2,000 copies per month and spends $875 a month for nine computers and a printer. The leases include service agreements for the upkeep of the equipment. "The leases function mainly as insurance policies, but if we have problems, we can call, and the expense is already paid," he says. "We are in the marketing-communications business, not the office-equipment business. Therefore, we lease what we can."
Bottom-Line Considerations
What you'll pay to lease equipment depends on:
What you're leasing (and how fast it depreciates in value),
The purchase price of the item,
How long you've been in business,
Your credit rating, and
The source of the lease.
However, a start-up business purchasing $5,000 in computer equipment usually can expect the interest rate for a lease to be 20% or more.
Retail stores often have arrangements with leasing companies to make leases available for equipment they sell. Large manufacturers, such as Dell Computer Corp., often have their own finance and leasing divisions, too. Or, you can get a lease directly from a leasing or finance company. When you get the lease directly from the leasing company, you can roll up several items into one lease. Thus you might have one lease to a computer from Dell, a monitor from ViewSonic, and a printer from Staples.com.
Leasing companies sometimes offer better terms and interest rates than retail outlets or manufacturers. But since retailers and manufacturers may offer special promotions that include lower-interest financing, the only way to know for sure who has the better deal at any given time is to compare the rates and terms. For each leasing option you're considering, ask about the interest rate, the actual or estimated buyout amount and whether you can pay off the lease early without penalty.
Before making your final decision, be sure to compare the cost of a lease to the other finance options available to you and evaluate what cash you may need available in coming months. For instance, if you have a line of credit with a low interest rate, decide if it makes sense to use that line of credit for equipment, or whether you might need the line of credit to balance out cash flow in your daily operations. Remember, if you're buying that new computer because you've just won a new contract and need to hire a new employee, it may be 60 days or more before you get a check from your client. But you can't wait 60 days to pay that new employee.
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