YOUR FINANCES
A common question I get from our small business owner clients is whether they should buy or lease equipment. There is not a simple, one-size-fits-all answer to this question because there are many factors that need to be taken into consideration.
Cash flow is the first and the most important factor for making a decision, but you rarely see the buy/lease analysis laid out this way. Many business publications have run stories that conclude that leasing always costs more, but that may not be true. These analyses consistently leave out a crucial step: calculating the returns if the business owner invests the cash flow savings from leasing. Of course, if you leave out that all important element of the equation, leasing will always look more expensive in the long run.
There are some other factors to consider in whether or not you should buy or lease.
Leasing Benefits
Leasing may permit you to more easily keep up to date with technology and this could be very important. If your business relies heavily on computer technology, for example, acquiring cutting-edge gear is a competitive advantage. Leasing is also more flexible. For example, if you lease a copier for two years, when the lease expires you can get a larger one if your needs have grown. You will also be able to get the latest bells and whistles if you need them. Plus, the burden of getting rid of the equipment falls to your leasing company. Got any old equipment you don’t use lying around the office?
Other benefits include no need for large upfront cash payments, which preserves working capital for your business. You will pay a security deposit and may be required to make several monthly payments at the start of the lease, however.
Leasing Drawbacks
One downside to leasing is that after your lease expires you don’t own the equipment, or have anything to show for it. If you need equipment that won’t need to be upgraded when new technology becomes available or if you use machinery that has a history of retaining its value, leasing may be less attractive. Another potential drawback with leasing is that if you don’t get enough use out of the machine, it may not justify the monthly fee. Typically a lease has a buyout option if you wish to terminate before the term is complete, but this can be costly.
Also, I find that confusing leasing terminology can often leave a company owner in the dark. Upon reviewing all of the financial paperwork for some new clients I have found leases with some ridiculously high interest rates. When I’ve asked these small business owners if they knew they were paying 18% for a lease the response I usually received was “I had no idea.” So, don’t be rushed into a deal until you completely understand all of the terms, including if maintenance is required and what those additional costs are. These ancillary expenses can boost that total lease cost to you.
Buying Benefits
The first benefit of buying is that basically, it’s easier.
Another benefit is tax deductibility. I wrote in a previous column about taking what is called a Section 179 expense deduction, which allows the business owner to expense the entire purchase price of an equipment purchase in one tax year. The resulting tax break could be enough to tilt your decision toward buying.
It is also worth noting that with an outright purchase you don’t have to reveal any financial details about your business to an outsider or to a credit bureau. To qualify for a lease, you may be asked to share tax returns and other proof of your creditworthiness.
Cash flow, taxes and more
As the table below demonstrates, the question of buying and leasing is more complex than most people first realize. Even when facing a seemingly straightforward lease vs. buy situation a small business always has multiple scenarios to consider; all of which require analysis of the cash flow, the tax implications and the investment opportunity cost for both the business and the owner’s personal finances. This is why it is important to have your CPA or financial planner help you evaluate your options and make informed lease vs. buy decisions.
To see a comparison between buying vs. leasing click here
