Equipment financing: Lease or loan?
Are you looking for equipment for your business and considering financing options? You’ll need to decide between leasing and taking out a loan. Both options have their advantages, but to make the right choice, there are several factors to consider, including your business’s cash flow, tax strategy, and long-term needs.
What’s the difference between a lease and a loan?
Both of these financing options allow you to purchase equipment by spreading the payment over several instalments. The main difference between them concerns ownership:
- If you take out a loan, you own the equipment from day one.
- With a lease, the leasing company owns the equipment and allows you to use it in exchange for payments, with the option to purchase it at the end of the lease term.
Is it better to choose a lease or a loan?
It all depends on your company’s situation. The type of equipment, how much value you place on ownership, your cash flow, and your tax strategy are all factors that can influence your decision.
Here’s a comparison chart to help you choose the best option for your business:
| Lease | Loan | |
|---|---|---|
| What type of payments do you make? | Whether it’s an operating lease or a finance lease, your payments are similar to rent, except that in the latter case, they also include principal and interest. | Your payments consist of principal and interest, reducing the outstanding balance of the loan. |
| Who owns the equipment? | The finance company owns the equipment and charges you a monthly payment. In the case of a finance lease, you may have the option to purchase the equipment at the end of the contract. | You’re the owner of the equipment and are therefore responsible for it. |
| Do you need to make a down payment? | A down payment isn’t usually required. | Most loans require a down payment. You then repay the remaining balance of the equipment’s cost. |
| How often are payments due? | In many cases, you can choose payment terms that fit your cash flow schedule, such as monthly, seasonal, semi-annual, or annual payments. | Payments are generally due monthly. However, some financial institutions may offer payment terms tailored to your cash flow. |
| Do you need to provide collateral? | A lease generally doesn’t require any collateral beyond the equipment itself. | Depending on your financial standing, you may need to offer other assets as collateral to secure financing. |
| How is the cost of the equipment amortized and what are the tax implications? |
If you have an operating lease, you rent your equipment and can therefore deduct the full amount of your payments as operating expenses. If you have a finance lease, you assume ownership of the equipment. However, you can likely deduct the full amount of your payments as an operating expense. Talk to your accountant for advice. |
You can deduct the interest paid on your loan, but since you own the equipment, its cost must be amortized over its useful life. In other words, you can only claim a portion of the amount each year based on the capital cost allowance (CCA) rules established by the Canada Revenue Agency. Talk to your accountant for advice. |
| What happens if your equipment becomes obsolete? | With a finance lease, at the end of your contract, you can choose to keep the equipment or replace it with a newer model and enter into a new lease. In some cases, it’s even possible to replace it during the term of the contract. This means you won’t have to deal with the inconvenience of obsolete equipment. | Since you own the equipment, you must assume the risks of obsolete equipment. |
| How does this affect your line of credit? | Neither finance leases nor operating leases affect your line of credit. You can therefore keep it available for other purposes. | If you take out a loan from the same financial institution as your line of credit, your borrowing capacity may be affected. |
| How is sales tax handled? | Sales tax is spread out across the payments made during your lease term. | You generally have to pay the total sales tax on the equipment when you take out the loan. |
What other costs should you take into account?
Interest rates
Interest rates on leases aren’t always higher than those on loans. Depending on your credit profile, the type of equipment, and the terms of the contract, leasing can be just as competitive – or even less expensive – than a traditional loan.
Hidden fees
A well-structured lease agreement contains no hidden fees. Always request a complete amortization schedule before signing a contract so that you’re aware of all costs and terms. For loans, a release fee will be charged at the end of the contract.
Termination fees
Terminating a lease early is generally more expensive than paying off a loan early. The penalty is often calculated based on the balance of the remaining payments, which means you’ll have to pay all the interest due until the end of the term, regardless of when you terminate the contract.
Is a lease or a loan the best choice for your business?
Compared to purchasing equipment outright, both financing options help maintain your business’s cash flow. One of the two is likely a better fit for your needs.
Consider a lease if:
- Flexible payments better suit your cash flow cycles.
- You don’t have the cash on hand for a large down payment.
- You operate in an industry where equipment quickly becomes obsolete.
Consider a loan if:
- You prefer to own the equipment so you can leverage its value as an asset.
- You plan to use the equipment for its entire useful life.
- Long-term capital cost allowance is more tax-efficient for your business.
Still unsure which option is right for you? Complete our form or contact one of our equipment financing specialists today.
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