If you are starting or expanding a business, equipment can represent a large outlay. Equipment leases can spread that cost, but it is vital that you understand what it is you are signing up for.
Pros
One of the obvious benefits of leasing equipment, rather than purchasing it outright, is that instead of paying a large lump sum, the cost of the equipment is spread at a monthly rate over months or years. This, of course, can be attractive because you are able to immediately use the equipment and make money from it without outlaying all the funds upfront. It prevents capital being tied up, which you could use in other aspects of your business
Another advantage is, that unlike with owning equipment outright, you may have the opportunity to upgrade the equipment more frequently. This means that you do not risk purchasing an item that may soon become obsolete as technology improves. It may also provide an opportunity to upgrade to more modern equipment more frequently if you choose a shorter lease term.
A further advantage, depending on your lease, is that the equipment provider may also offer service agreements giving you peace of mind. While this is usually an ‘add-on’, this can reduce the need to have in-house technicians and save time and money in trying to identify the right tradesman if you need repairs or maintenance performed.
Cons
With all of that in mind, there can be disadvantages in leasing equipment. As with any contract, it is important to consider all the terms and conditions to ensure that you know what you are getting. While the terms of the lease are primarily first protect to the lessor, a proper review of the contract will ensure that you are not burdened with unforeseen costs or obligations.
The obvious disadvantage is that the finance company includes a margin for interest costs and its profit. It is not uncommon for a lease to include fees additional to the lease payment or rental cost, so understanding what those fees are is important. If a lessor is unable or unwilling to explain their contract terms, this could be a bad sign.
A further disadvantage is that you cannot change the equipment to suit your purposes. That is, you will not be able to modify or alter the equipment and must use it as is.
The hidden trap
Almost all equipment leases to small or medium sized businesses contain personal guarantees of the owners or directors. Some go further and provide that the finance company is entitled to lodge a caveat over any real property owned by the director who signed the guarantee. The guarantee documents often form part of a number of documents that the same time, so the business owners may sign them without realising what they are getting into. In certain circumstances, the guarantee can be unenforceable if the guarantor did not obtain adequate legal and financial advice. However, it is obviously preferable not to be in that position in the first place.
If that guarantor ceases to be involved in the business for any reason, the guarantee still exists, and can be enforced against that guarantor even well after they leave the business.
For these reasons, it is important to consider carefully any guarantee documents which are provided. Also, if you cease to be involved in the business, you should make arrangements for the lease to be paid out, or for those continuing with the business to make arrangements with the finance company to secure your release.
Tax advantages
You are entitled to a tax deduction of 100% of your payments under an equipment lease. On the other hand, if you purchase the equipment without a lease, perhaps with a bank loan, you are only entitled to a tax deduction representing depreciation. In response to financial difficulties of businesses caused by covid, the government currently allows instant write-off in most circumstances. Accordingly, at present, there is little advantage in the tax deductions for an equipment lease, compared to buying the asset outright. No one knows how long the instant write-off provisions will apply.
If you buy the equipment outright, you immediately obtain an input tax credit for the GST, being 1/11 of the purchase price. However, if you acquire the equipment under an equipment lease, you only receive input tax credits on each instalment as they fall.
How does an equipment lease work?
Equipment leases operate similarly to rental leases. That is, the finance company provides its standard agreement outlining the terms, including any monthly fees. The business owner enters the agreement and is allowed to use the equipment throughout the term of the lease (usually several years) until the expiry.
Depending on the terms of the lease, it might be possible to purchase the equipment at the end for the current market value or another value. If your lease agreement does not have a purchase option, or you do not want to purchase the equipment, it will be returned to the lessor at the end of the lease. If you want to have the option to purchase the equipment at the end of the lease, it is important that this is included in the contract.
PPSR Registration
Leases of equipment can be registered on the Personal Property Security Register to protect the lessor’s interest in the property. Any prudent financiers will arrange for each equipment lease to be registered, as it protects the title in the equipment and makes recovery easier if a lessee fails to pay as required under an agreement.
Conclusion
Leasing equipment can be an ideal solution to help expand your business without having to find or outlay up-front capital. it is important however to be aware of all the terms and conditions so you can make an informed decision.
If you or someone you know wants more information or needs help or advice, please contact us on (02) 9923 2321 or email [email protected].
For more information contact Tim Somerville or Andrew Somerville on (02) 9923 2321.
