How To Choose Between Buying Or Leasing Business Equipment

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1 IS BUYING OR LEASING EQUIPMENT

2 Table of contents Introduction 3 Leasing Equipment 4 Lower Initial Expenses 4 Tax Deductions 4 Flexibility 4 Avoiding Obsolescence 4 Drawbacks of Leasing Equipment 5 Higher Long-Term Cost 5 You Will Never Own It 5 Must Pay for the Entire Term of the Lease 5 Purchasing Equipment 6 Ownership 6 Tax Benefits 6 Depreciation Deduction 6 Disadvantages of Purchasing Equipment 7 Higher Initial Capital Outlay 7 Owning Obsolete Equipment 7 2 Is Buying or Leasing Right for Your Business? 8

3 Introduction Regardless of the industry in which you may be involved, when you own a business, you will need to obtain equipment at some point. Whether you are just starting out and need to get your business off the ground, or whether your equipment has outlived its useful life and it is time to begin thinking of replacing outdated equipment with new items, you will need to make a decision regarding whether you should lease or buy equipment. There are certainly advantages as well as drawbacks related to both leasing and purchasing. Developing an understanding of which option may be more beneficial in your current situation can help you make the most of your investment and position your business for the greatest amount of growth and success in the future. 3

4 Leasing Equipment The decision to lease equipment can often be a good choice when you have very limited capital available to you or when you are in need of equipment that will need to be upgraded every few years. Lower Initial Expenses The primary benefit of leasing equipment is that it provides you with the opportunity to acquire equipment with minimal initial capital outlay. Due to the fact that leases for business equipment usually require you to only make a down payment, it is possible to obtain the equipment you need without affecting your cash flow in a significant manner. Tax Deductions The payments that you make toward your lease can often be deducted as a business expense when you file your business s tax returns. As a result, these deductions can actually lower the net cost of your equipment lease. Flexibility Leases are typically easier to obtain and may offer more flexible terms than a business loan. If you have poor credit and cannot qualify for a business loan, leasing equipment may be your only option. If you need to negotiate longer payment plans than are available with a business loan in order to lower your costs, leasing could also be beneficial. Keep in mind, however, that there are now many alternative business loan options available. Many of them will allow you to obtain a business loan even if your credit is not perfect. 4 Avoiding Obsolescence Perhaps the biggest reason for many businesses owners to consider leasing business equipment over purchasing equipment is the need to avoid obsolescence. If the equipment you will be buying will become outdated within a short time, such as high-tech equipment, then a lease may be a more beneficial solution. Once your lease expires, you are free to lease equipment that is newer and more updated.

5 Drawbacks of Leasing Equipment Just as there are obviously many advantages associated with leasing equipment, there are also several drawbacks that you should carefully consider before making a final decision. Higher Long-Term Cost Leasing equipment is generally always more expensive in the long term than purchasing it from the beginning. Let s take a look at a quick example to illustrate this point: Suppose you decide to lease a piece of equipment with a value of $5,000 for three years. Over the three-year lease, you pay $50/month per $1,000, which is a total of $9,000. If you had bought the equipment outright, the total cost would only have been $5,000. You Will Never Own It When you purchase equipment, you immediately begin to build equity into your purchase. Provided the equipment has not become completely obsolete by the end of the lease, it will still retain some value. Unfortunately, you will have no equity in equipment that you lease because you have no ownership. You Must Pay for the Entire Term of the Lease Regardless of whether you use the equipment for the entire term of the lease, you will still be obligated to pay for the entire lease period. It should be pointed out that some leases will provide you with the option to cancel the lease if you no longer need the equipment for some reason, but that is extremely rare. In the event that you are able to cancel the lease, you will typically be responsible for significant early termination fees. 5

6 Purchasing Equipment The option of purchasing equipment can also present many advantages, including the ability to enjoy ownership as well as tax breaks. There are some disadvantages of which you should be aware, as well. Ownership Perhaps the most obvious and significant benefit associated with purchasing equipment is that you will actually own it. From the first payment that you make when buying equipment, you will have equity in your purchase. This is not the case with leasing. Ownership of equipment can be particularly significant when related to equipment that offers a long useful life and is not prone to becoming outdated quickly. Tax Benefits Purchasing equipment over leasing also offers important tax incentives. Section 179 of the Internal Revenue Code provides you with the ability to deduct the cost of certain newly purchased assets within the first year based on the full cost. There are some exceptions and rules under which this applies, but depending upon the tax bracket in which you fall and the amount of equipment that you purchase, you may be able to deduct the cost of business equipment amounting to $500,000. Remember that it is always a good idea to consult with a professional accountant with a solid understanding of your situation and the current IRS regulations regarding tax deductions and incentives to understand how a prospective purchase will fully impact your financial situation. 6 Depreciation Deduction It must be pointed out that while not all of the equipment purchases you will make are eligible for the deduction mentioned above, it may be possible for you to still receive tax savings for other types of business equipment purchases through depreciation deductions. Some assets do not qualify for a depreciation deduction, including inventory that was purchased through resale and property that you purchased from a close relative. Once again, if you are not certain how the depreciation deduction would apply to equipment that you are considering purchasing, make sure you consult a qualified financial advisor.

7 Disadvantages of Purchasing Equipment Although there are certainly many advantages associated with purchasing equipment, you should also be aware of the potential drawbacks. Higher Initial Capital Outlay When deciding whether purchasing or leasing equipment is the right decision for your business, it is always important to determine where you stand in terms of accessible capital. For some businesses, it may not be possible to purchase equipment because the initial outlay would be too high. A small business loan can resolve this issue, but you will need to make sure you meet the necessary qualification requirements. If so, this can be a good alternative because it will allow you to preserve your capital while still obtaining the equipment you need to grow your business. At the same time, even though you are borrowing the money, you still get to tap into the tax benefits related to purchasing equipment. Owning Obsolete Equipment In determining whether purchasing or leasing is the best solution for your business, you must always consider exactly what it is you are purchasing and how quickly it will become outdated. If you are considering the purchase of high-tech equipment that is updated frequently, purchasing such equipment may put you at risk for owning equipment that will become obsolete quickly. As a result, you will need to invest in new equipment much sooner. There are some types of business equipment that offer very little in terms of resale value. 7

8 Is Buying or Leasing Right for Your Business? Leasing equipment and tools will help to preserve your business s capital and provide a tremendous amount of flexibility, but in the end, leasing will typically cost your business more money. In determining which option is best for your needs, make it a point to determine the approximate net cost of the equipment that you are considering purchasing. Always factor in potential tax breaks that may be available to you along with the potential resale value of the equipment to ensure that you are looking at it from all angles. After you have determined which option is most cost effective in the long run, consider other elements, including whether the equipment has the potential for becoming obsolete in the near future or whether there is the chance that your need for the equipment will come to an end prior to a lease. If you determine that buying is the best solution for your needs but you are short on capital, remember that small business loans are available to provide you with the infusion of cash you need to purchase necessary equipment to keep your business operational and even expand your operations. Keep in mind that while every business is unique and has different needs, in most instances, purchasing equipment simply makes more sense when there is a small risk of obsolescence and there is not a substantial amount of depreciation involved early in the life of the asset. 8

9 Is Buying or Leasing Equipment the Right Choice for Your Business? For more information on small business financing, contact CapFusion at or visit us at 9