Should You Purchase or Lease Business Equipment?
by Ryan Kernan
Leasing an expensive piece of equipment makes it more affordable month to month, but it can cost you more in the end. Purchasing outright, however, is not always the best option either.
Every business needs equipment. From mundane office electronics to heavy machinery, funding your business's equipment needs can become costly. Cash flow concerns mean that purchasing items in full is often out of the question. Leasing the necessary equipment or taking out a purchase loan spreads the cost over a period of time. There are distinct advantages to each system, and different scenarios where one procurement technique should be favored over another.
Generally speaking, leasing any given piece of equipment is more expensive than buying it outright. Despite this cost difference, there are many good reasons to lease. If the items you are considering purchasing run the risk of becoming obsolete before the end of their usable life, leasing would be a good option. This is true for goods such as computers and other electronics that rapidly become outdated. You stand no chance of recouping the initial cost of the equipment, and you'll likely need to use it long after it's considered state-of-the-art. Signing a lease agreement means that you'll be able to trade in the equipment for newer models, and don't have the carrying costs associated with aging assets that may break down or need repair.
There are also several financial incentives to leasing. Unlike a purchase loan, a lease agreement usually requires no down payment, conserving cash. Lease payments may often be written off as a business expense on your tax return, another benefit to leasing. While these two monetary benefits can make leasing an attractive option, it is important to keep in mind the length of the lease term. If your business needs change suddenly and you need new or different equipment, you may be forced to pay hefty early termination fees to break your lease. As a general rule, if you plan to use the equipment for five years or less and there is a good chance of obsolescence, leasing is a good bet.
If, however, you plan on using your equipment for over five years, and it holds its value well, then you should consider purchasing it. This especially true with land and other fixed assets, and anything that will likely gain in value over time. When you purchase an asset, equity is built as you pay down the purchase loan. Owning assets that appreciate in value over the long-term leads to wealth creation, a benefit wholly sacrificed if one leases the piece of equipment in question. Purchasing equipment also allows the owner to customize it, and easily sell or trade it if the business's needs change.
When taking a loan to purchase equipment, a down payment is generally required, and may be as high as 20 percent or more. The upfront costs are higher than leasing, which means that buying equipment may not be for everyone. If you can afford to purchase it, however, the longer-term costs will be lower than when the same item is leased. There are also tax advantages to buying long-term assets. While buying equipment is cheaper in the longer term and offers the benefits of flexibility and captured equity, there are some risks associated with the outright purchase of equipment. Namely, if the equipment suddenly become obsolete and needs to be replaced, or the land or other assets you purchased decline in value, you may be left in a position where you owe more on the loan than the asset is worth.
Buying and leasing business equipment offers both costs and benefits. Cash flow is a major consideration, as well as the expected length of use, and the tax implications of a purchase or lease. Each business should determine the cost effectiveness of both approaches, and proceed with the option that best fits their needs and cash on hand.
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