Tech equipment–computers, IT equipment, and related items–poses some unique issues for businesses trying to decide whether to lease or buy. Tech equipment becomes obsolete more quickly than almost any other type of equipment, making it a poor long-term investment. At the same time, many businesses need to keep their tech hardware up-to-date in order to remain competitive.
Should you buy or lease your tech equipment? Read on.
How Does IT Equipment & Computer Leasing Work?
The word “lease” is often associated with rental agreements — like the ones you sign when you rent an apartment or lease a new vehicle. While those examples are the most common, the term has grown to encompass a number of other types of agreements.
Capital VS Operating Leases
While there are an enormous number of lease types with names like “triple buyout lease” or “synthetic lease,” almost all of them fall under two major umbrellas: capital leases and operating leases.
A capital lease encompasses leases like conditional sales agreementsÂ as well asÂ $1 buyout leasesÂ andÂ $10 buyout leases. A capital lease transfers ownership of the item in question to you, the lessee, either immediately or early during the lease’s terms. For all intents and purposes, the item is considered yours–it’s an asset on your balance sheet. Compared to operating leases, you’ll have higher monthly payments but a much smaller residual payment at the end of your lease (hence the $1 buyout, for example). You rarely, if ever, have the opportunity to return the equipment at the end of your lease. And why would you? You’ve already paid for its entire value, plus interest. If this sounds a bit like a loan, it should. You’d essentially use a capital lease as an alternative to an equipment loan.
Operating leases are more traditional leases. In fact, they’re sometimes called “true leases.” With an operating lease, the leasing company retains ownership of the equipment while you’re giving operating rights to it. This means the equipment is considered an operating expense for your business, rather than a purchasing expense. The most common type of operating lease is the fair market value lease (FMV). Typically, monthly payments will be lower with operating leases, but the amount left over at the end will be larger. Operating leases usually give you the option of returning the equipment to the leasing company at the end of your lease. You also have the option to buy it for its fair market value price, but in most cases, you’d be better off with a capital lease if you prefer to keep your equipment.
If a lease has a buyout option, that means that you have the option to purchase (buyout) the equipment at the end of your lease. Many types of leases are named for the terms of the buyout. For example, a fair market value lease grants you the option of buying the item at its fair market value. A $1 buyout lease? You guessed it; you can buy the equipment for a dollar at the end of your lease.
Why the enormous difference in buyout amounts? Remember, a capital lease frontloads the cost of the equipment into your monthly payments. The $1 residual is essentially just a formality; you’ve already paid for the item. On the other hand, with an FMV lease, you’ve only been renting, so the cost to buy is based on what a used piece of equipment that age would cost on the market.
There are a lot more obscure types of lease agreements that you may run into, but generally speaking, you can expect capital leases to have small, insignificant residual payments and operating leases to have larger, more significant ones.
Common Lease Terms
Equipment leasing comes with a lot of jargon. Let’s demystify some of it.
- Lessor:Â The company financing your lease. Think “lender” but for leases.
- Lessee:Â The person or company taking out the lease. Think “borrower” but for leases.
- Term Length:Â The length of your lease. A typical tech equipment lease may run anywhere from a year to five years. The longer your lease, the more expensive it will be in most cases.
- Interest:Â The amount you’ll be charged in excess of the value of the equipment. Rates usually start at around 6% and top out in the high teens, though some may be higher depending on your credit, the lessor, and the type of lease you select.
- Fees: These vary by lessor and state. They may include supplemental charges like administration, restock, insurance, and origination fees.
- Monthly Payment:Â The amount of money you’re expected to pay your lessor every month.
- Residual:Â An amount required to purchase the leased equipment at the end of the lease. Generally speaking, the lower your monthly payment, the higher your residual, and vice versa. Capital leases have lower residuals than operation leases.
Leasing VS Buying Computers & IT Equipment
So why would you lease tech equipment instead of buying it? Let’s look at some of the advantages and disadvantages of leasing tech equipment.
Advantages Of Leasing
- Easy Upgrading: Tech equipment becomes obsolete very quickly, which can make it a poor longtime investment. An operating lease may allow you to stay up-to-date on the latest technology without having to re-purchase every couple of years. This can help small businesses keep up with the technological curve.
- Smooths Out Cash Flow: Breaking the cost of your equipment down into predictable monthly payments has its advantages, even if you are paying more over time.
- Shipping & Installation May Be Covered: Unlike business loans, leases more frequently cover the full expense of factory-to-operational expenses.
- No Downpayment: With the possible exception of having to make your first month’s payment up-front, the entry costs of a lease tend to be very low.
Disadvantages Of Leasing
- More Expensive: Between interest and fees, it’s pretty much guaranteed that you’ll be spending more money on the equipment than you would if you have purchased it outright.
- You Can’t Easily Resell: If you want to offload your equipment before your lease is over, you may run into some legal complications. Make sure you know your lessor’s policies before you try to transfer ownership to a third party.
- Legal Complexity: There are a lot of different types of leases with a lot of different rules. Is the item an asset or an operating expense? Well, that depends on the type of lease you have! Are you responsible for maintenance and upkeep, or is the lessor? Again, it depends on the type of lease you have.
- You Need Good Credit: Given the responsibilities that come with leasing, most lessors want to see a solid credit score
Advantages Of Buying
- Tax-Deductible: As a business owner, you can write newly purchased equipment off of your taxes.
- Cheaper: It’ll be a bigger expense up front, but over the longterm, you’ll have saved a good bit of money.
- The Equipment Is Definitely Yours: Want to resell, modify, lend it to your cousin in Tallahassee, or smash it with a sledgehammer? You can! (Check your local laws regarding e-waste, though, if you take the smashing option.)
- Less Complicated: Buying is simple. You exchange currency for ownership of the item. There’s not much fine print to sift through.
Disadvantages Of Buying
- You Need Cash On Hand: Buying means paying the price of the equipment all at once. That means you have to have a decent chunk of cash in your reserves — or be willing to take out a loan. This can be a big ask for businesses that run on thin margins.
- You’ll Be Stuck With Obsolete Equipment: Tech equipment isn’t the best long-term investment. Eventually, you’ll be stuck with obsolete gear that isn’t easy to get rid of. And on that note…
- It Depreciates Quickly: Ever tried selling your iPhone four years after you bought it? Tech moves quickly.
Computer Leasing VS Buying: Which Is Better For Your Business?
There are advantages and disadvantages to both buying and leasing computers and IT equipment. Consider leasing equipment with a high turnover rate if you work in an industry where being on the bleeding edge is advantageous. On the other hand, if you have modest tech needs and can comfortably use the same gear for longer than five years, it may make more sense to just simply buy the equipment you need. There are additional considerations for businesses trying to smooth out their cash flows or otherwise apply their limited resources to maximum effect.
Don’t have the cash to buy outright but aren’t sure if a lease is right for you? Consider an equipment loan. Not sure where to look for equipment financing? Check out our Best Equipment Financing Companies. Just starting out and need equipment for your office? Try our guide on how to Get The Equipment You Need For Your Startup Business With A Loan Or Lease.
The post Tech Equipment Leasing VS Buying: Should You Lease Or Buy Computers & IT Equipment? appeared first on Merchant Maverick.