Be it desks for an expanding office, ovens for a growing restaurant, or the latest dental X-ray machines, most small businesses will face the need for new equipment. But the often high expense of purchasing this equipment can create a quick need for cash, and an open question as to how to fill that need. Even if your business has the funds to cover the capital expense, you may prefer to invest that money in other areas of the business. As such, equipment financing can be a highly useful tool.
There are two options when it comes to financing new equipment for your business:
- Take out an equipment loan
- Lease the equipment
Here’s a rundown of each, and how to know which option to choose for your business needs.
Business Equipment Loans
Equipment loans can come from a variety of sources, depending on your eligibility/credit score and your needs.
These sources include:
- Commercial bank loans
- Credit unions
- Alternative lenders
- Government-backed SBA loans
Unlike larger general-purpose small business loans, depending upon the size, equipment loans can sometimes be for smaller amounts; which might make them slightly easier to obtain.
Loans Specifically Intended for Equipment
Almost any tangible asset required to run a business will qualify for an equipment loan – computers, restaurant equipment, and machine tools all qualify. If your restaurant needs a new pizza oven, for example, considering an equipment loan could expand the options of available financing. Traditional lenders like banks and credit unions offer equipment loans, but they are also available through non-bank financing companies and other online lenders.
If you’re looking for very large and expensive equipment, like the front-end loader or road grader used by a construction company, an SBA 504 loan may even be an option. For a detailed guide of terms and how to qualify for an SBA 504 loan, read our Guide to SBA Loans.
Terms for equipment loans at commercial banks and credit unions will vary depending on the lender. Commercial loan repayment terms can be fixed or variable rate, and the repayment period can vary but tends to max out at seven years for most commercial loans. Interest rates will vary depending on the bank, your credit, and the amount borrowed, but most fall in the 6-12% range.
Credit unions may have more favorable terms, such as lower interest rates and 10-year repayment periods, but you must be a member of the credit union in order to apply.
Equipment Loan Rates and Terms
An equipment loan usually involves less time to apply and often will get a faster answer from the bank than a typical small business loan – usually within a few days of submitting an application.
Alternative lenders also offer equipment loans. These lenders will also get you an answer to your loan request within a couple of days, providing a good option if you need the equipment fast. You might pay a higher interest rate when compared to a traditional bank loan or credit union, but are likely to have a shorter repayment period – usually between 6 months to 2 years.
While terms from different lenders vary, most lenders will ask for a down payment, likely 20%, for the loan. An SBA 504 loan will require a 10% down payment. As with most loans, the interest on an equipment loan is tax-deductible.
How to Apply For Business Equipment Loans?
As with any business loan, you’ll want to have your paperwork prepared in advance. It’s helpful to have a detailed business plan that explains why you need the equipment, and how the purchase will take your business to the next level.
You will also need profit and loss statements for your business to show cash flow. It helps to bring a copy of your resume too, just to demonstrate your experience in the business. The loan will require some form of collateral to guarantee it, but in most cases, the equipment itself may serve as part of or all of the collateral.
Leasing equipment can be a good alternative to taking out a loan if the equipment you need will become outdated and/or need to be replaced fast. It’s also a great way to purchase the equipment you may want to keep after the end of the lease. Lease payments are often less than a loan payment and some end-of-lease buyouts are as inexpensive as $1.
Which Equipment Is Better to Lease?
The following are examples of equipment that may be a better candidate for leasing than buying:
- High tech computers
- Medical equipment
- Any equipment that gets a lot of wear and tear
Remember, most lease agreements allow you to purchase the equipment at the end of the lease.
Pros of Leasing
Leases can be easier to qualify for and sometimes have more flexible terms when compared to an equipment loan. Some leases can often be obtained without any down payment. Plus if you are leasing equipment that needs to be upgraded often, you may be able to include lease terms letting you exchange the equipment for an upgrade after a certain period of time.
Also, the full amount of a lease payment is tax-deductible, versus only the interest on loans. But keep in mind that to claim your payment as a business deduction, you must exclusively lease it, without any provision allowing you to own the equipment at the end of the lease.
Cons of Leasing
While a lease can provide a means of getting the equipment you need while freeing up funds you may want to use for other expenses, in some instances, leasing can end up costing more than a loan. For example, if you decide you no longer need the equipment after a year, and your lease is for two years or longer, you will likely need to continue making payments.
To Sum Up
One of the key decisions to make in determining the best way to finance equipment will be choosing between taking out a loan, or leasing what you need. While each option comes with benefits, the key will be to examine your situation and make a judgment, based on factors including your immediate need for cash, your potential use of that cash for investments or needs other than equipment, and the longevity of the equipment itself.