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When it comes to leasing or buying construction equipment, how can you decide which plan is best suited for your needs?
Besides offering tax benefits, upgraded technology and flexibility, a good leasing program provides options that allow you to tailor it to fit your month-to-month or year-to-year cash flow needs. For example, some leases allow you to miss one or more payments without a penalty, an important feature for seasonal businesses.
Last year, it was estimated more than $200 billion was spent on leased equipment. Because of the nature of the electrical contracting industry, there are numerous demands that require the contractor to have the latest technology. A short-term lease is often the solution to obtaining equipment with minimal upfront costs, and you can upgrade or change equipment based on your needs.
According to the Equipment Leasing Association, obtaining a good lease depends on a variety of factors, including interest rates and cash flow. The leasing industry overcame a slight downturn with the change in economy but since then, it has seen an overall increase in growth over the past few years, providing a more attractive venue for contractors.
Leases account for the actual value of a piece of equipment at the end of the lease term. Many leasing companies offer competitive rates, allowing the contractor to take advantage of the depreciation expense deduction that comes with ownership.
“The question of whether to rent or buy perplexes people in both their personal and professional lives,” said Mike Disser, vice president, marketing, NES Rentals, Chicago. “One example is a more common ‘rent vs. buy’ dilemma ... to rent or buy a residence.
“The difference with a home purchase and a piece of construction equipment, of course, is that your home value is expected to appreciate over time, while the equipment value is expected to depreciate—and often does. You build equity when you buy both a house and construction or industrial equipment, but the resulting value of the equipment over time is usually negligible.”
When contemplating an equipment lease, there are several factors to consider, namely what you intend to do with the equipment at the end of the lease term and how long you want to use the equipment.
To make this determination, you need to factor in whether you plan to keep the equipment, make an outright purchase of the equipment at fair market value or renew the lease.
According to the Association for Governmental Leasing and Finance, the benefits of a tax-exempt lease include the following:
- Preservation of capital for other projects for which leasing is not an option
- Preservation debt limitations does not create long-term debt on the entity’s books
- Enables improvement of cash flow
- Incorporates flexible structuring to meet budget needs
- Low rates resulting from tax-exempt basis
- Offers an alternative financing option without voter approval
- Provides project financing (including soft costs)
- Spreads out the cost of an asset over the useful life of that asset or project
Be sure to find out if there are any hidden costs at the end of the lease term as well. Factor in other monetary considerations such as your responsibilities under the lease—maintenance and insurance, for instance—which may not be discussed prior to the signing.
According to Disser: “The flexibility that renting offers is paramount. Unless you use your equipment 70 to 75 percent of the time, or 30-plus hours per week, renting is the best avenue. It makes even more sense when you then factor in maintenance, storage costs and interest charges for which only owners are responsible. The 2004 CIT Forecast revealed that 20 percent of respondents say protecting against equipment that breaks down is one of their top reasons to rent.”
On the other hand, owning equipment enables a contractor to be responsible for the unit for the life of the equipment, including all maintenance costs, taxes and insurance.
“Further, your company will not always know the full extent of its needs at the outset of a project,” Disser said. “Renting offers the ability to test drive equipment over a series of weeks or months. This enables users to try out different equipment types and models on actual job sites before settling on one long-term lease or purchase.
“After six months, you can go re-evaluate the cost effectiveness of your equipment rental and determine whether you should own. And because your needs vary, your leasing program should vary, too. A good rental equipment company offers flexible rental plans to fit your cash flow needs, either on a monthly or yearly basis.
“If your business is seasonal, create a program that allows for different payment schedules dependent on the time of year.”
For many companies, the business axiom holds true: “If it appreciates, buy it. If it depreciates, lease it.”
Often, the tax benefits will yield more annual cash flow than if you were to purchase the same equipment.
Leasing gained most of its popularity in the 1970s as a way for larger companies to acquire expensive machinery with tax benefits for both the end-users and leasing companies.
Today, more and more companies and independent contractors are realizing the benefits of leasing, which enable most payments to be fully tax deductible.
Of course, one of the most attractive advantages of leasing is the ability for the contractor to continually upgrade existing equipment to the most state-of-the-art technology, thereby avoiding the problem of owning outdated equipment.
“In order to maximize the flexibility offered through renting equipment, remember that the best time to lease is during an expansion year when business growth can mitigate the risk,” Disser said. “From there, choose between an operating lease—for companies that replace equipment often—and a finance lease that allows your company to reap greater tax benefits when the equipment’s residual value rises.
“Additionally,” he continued, “operating leases are not considered long-term liabilities, so they don’t appear as debt on your balance sheet. They are considered a tax-deductible overhead expense by the IRS.”
SPEED is a freelance writer based in Weymouth, Mass. She can be reached at 617.529.2676 or [email protected].