Each option has advantages and potential drawbacks to consider
When it’s time for new equipment for your business — be it computers and other information technology, machines for manufacturing or service, equipment for agriculture or food preparation, commercial vehicles or buildings, etc. — you have the choice of buying or leasing. Each option has advantages and potential drawbacks. These considerations can help you determine the best approach for your company.
Leasing simply means paying the owner of an asset for the right to use it. With a lease, you don’t take title to or legal ownership of the item; you are effectively renting time on it. This can provide several benefits compared to outright ownership:
- Preserves cash. If you own a manufacturing company, for example, $500,000 (or more) for a new packaging machine might be a big check to write. Likewise, a new facility can cost millions of dollars. A lease effectively evens out the cost of acquisition with monthly payments over a given term of, say, three to five years. This can keep cash available for other uses; it can also help you match expenses with revenues — in other words, you can pay for the equipment as it generates revenue for your business.
- Tax deductibility. Lease payments may be tax-deductible business expenses, like payroll or costs of goods sold. Generally you can’t depreciate leased equipment. Your accountant can help you understand the tax implications of different lease options.
- Flexibility of terms. You may be able to negotiate the terms of a lease; for example, its length or the services (such as training and maintenance) that come with it.
- Reduced risk of obsolescence. Leasing allows you to stay current with changing technology. For example, a typical three-year lease on technology such as computers or servers allows your company to obtain the most productive new technology every few years.
With leasing, however, there are limitations compared to ownership of an asset, including:
- No equity. Because you don’t take ownership of equipment with a lease, you typically don’t get the benefits of ownership, such as depreciation. The lease terms may also prohibit you from making modifications that could improve equipment performance.
- Obligation to pay. With a lease, you are obligated to pay for the term of the lease even if the equipment is no longer in use by your company, or incur an early termination fee.
Conversely, the benefits of buying an asset include:
- Ownership. Whether paid for in cash or financed, ownership of the asset increases the value of your company, building equity over time. Ownership also makes sense when the equipment has a long useful life and is not subject to obsolescence.
- Potential tax incentives. To spur growth, the government occasionally provides incentives such as accelerated depreciation or even full deductibility the year the piece of equipment is placed in service. Your accountant can help you determine whether and how to take advantage of these tax provisions.
Likewise, the potential drawbacks of buying include:
- Higher upfront cost. With a purchase, the funding is typically due before or on delivery. The cash outflow required may make it difficult to fund other expenses, such as rent or payroll.
- Risk of obsolescence. If the value of an asset decreases over time, like technology or equipment (as opposed to property or buildings), a purchase can tie you to equipment that is less productive or more expensive to operate, than the latest model.
- Potential disposal costs. Some equipment may incur costs at the end of its useful life, such as removal, disassembly, transportation, environmental mitigation, etc. While these expenses may be tax deductible, they can still affect cash flow, profitability and the total payback on the equipment.
The decision to buy or lease is unique to each business. City National Bank offers both financing andleasing solutions. Contact us today to learn how we can help you make the right decision. Call us at (800) 773-7100 or Email Us and request that a Relationship Manager contact you.
City National, as a matter of policy, does not give tax advice. You should consult with your own tax advisor respecting your unique tax situation.