Access to Capital – Leasing

Today’s Tip

Best Practice:  Leasing vs. purchasing can lower your initial capital requirements. Review a lease carefully to avoid any hidden costs or fees.

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Today’s Article:  Access to Capital – Leasing

Business can lower initial capital needs by leasing versus buying.  Small businesses, especially start-up businesses have more difficulty raising capital.

Leasing equipment versus buying equipment is one way to lower initial capital requirement since you are paying a monthly amount and not needing to come up with the full purchase price upfront.

 

What Is a Lease?
A lease is a long-term agreement to rent equipment, furniture, land, buildings, or any other asset. The business leasing the asset makes periodic payments to the owner of the asset.

Types of Leases
There are three major kinds of leases: financial lease, operating lease, and sale or leaseback.

Financial Lease
A financial lease is the most common and is basically a rental agreement not to exceed the economic life of the equipment. A financial lease usually provides that:

  • Company leasing the asset makes monthly or periodic payments
  • Ownership of the asset reverts to the leasing company at the end of the lease term
  • The lease is usually non-cancellable and payments must be made until the end of the lease
  • The leasing organization agrees to maintain the equipment

Operating Lease

An operating lease is basically a rental agreement not to exceed the economic life of the equipment. An operating lease usually provides that:

  • Company leasing the asset makes monthly or periodic payments
  • Ownership of the asset reverts to the leasing company at the end of the lease term
  • The leasing organization agrees to maintain the equipment
  • The lease may be cancellable, but with a penalty (Example of this type of lease: Computer equipment)

Capital Lease

With capital leases, the company leasing the asset records ownership of the asset and its related liability rather than rental expense. The company also records depreciation on the asset.  At the end of the lease, the company owns the asset.

Kinds of Lessors
Commercial banks, insurance companies, and finance companies do most of the leasing.
In addition to financial organizations, there are companies which specialize in leasing. Some are engaged in general leasing most kinds of equipment. Others specialize in particular equipment, such as vehicles or computers. Some equipment manufacturers lease only their equipment they make.

Advantages of Leasing
Use of an asset without making a large initial cash outlay
Spreads payments over a longer period
Protection against the risk of equipment obsolescence-when the lease is over you turn it in
Tax benefits in leasing – lease payments are deductible as operating expenses
Leasing firms are knowledgeable about the equipment they lease – expert technical advice

Disadvantages of Leasing
Leasing usually costs more over time
Business does not own the asset, unless it is a capital lease
Lease is a long-term legal financial obligation. Usually you can’t cancel a lease agreement without a high penalty.

What to Look for in a Lease Agreement
Payment amount
Length of the payment agreement
Who owns the asset at the end of the lease
Value of the equipment for insurance and settlement purposes
Who is responsible for maintenance and taxes
Renewal options
Cancellation penalties and special provisions

 

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Action Step: If you are short on cash or collateral to acquire a loan, you may want to consider leasing versus buying to lower the initial capital required. For more info go to: Should You Lease or Buy Equipment

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   Additional Resources

More Ways to Access Capital      Return to Brand Library      Return to Brand Yourself

 

 

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