The two most popular ways to go about equipment financing are through a lease or a loan. While they’re often thought of as the same, the differences between a lease and a loan may surprise you and your customers. These differences include the terms of the agreement, variable and non-variable interest rates, and advanced payments.
Why You Should Offer Financing instead of Cash
Before we take a closer look at a lease vs. loan, let's examine why your customers would use financing instead of cold, hard cash. If your customers need new hardware, software, upgrades, or add-ons, but they want to spend their on hand cash more effectively, then financing is the answer. Plus, you benefit too by adding monthly recurring revenue (MRR) and stickier customers to your portfolio.
Despite the differences between a lease and loan, they share some perks that make either option a great alternative for your clients to acquire equipment.
Finding Common Ground: The Benefits of Both Equipment Leasing and Loans
Both leasing and bank loans help your customers buy the equipment their business needs. Here is a look at all the ways financing helps your customers:
- Pay as they use it instead of a large, upfront cost
- Able to acquire more tech while staying within their budget
- The ability to forecast their spend and budget for technology well into the future
- Hedge against inflation by using tomorrow’s dollars today
- Keep their working capital open to invest in other areas of their business
- Improve their company’s credit by creating a new credit source
What Type of Equipment is Being Financed?
“Okay… but that’s only if they need a bulldozer or a copier, right?”
First, let’s get on the same page and clarify what exactly ‘equipment’ includes. Although your mind might jump to heavy machinery, it’s a universal term that blankets a wide variety of items companies need to run their business. It could mean anything from your office fixtures to construction equipment. In your world, it generally means IT hardware, software and business communication. If you think copiers are the only equipment being leased, it's time to reassess. What you sell is being financed.
Equipment Lease vs. Equipment Loan
There is no wrong answer when it comes to financing and using a lease vs a loan. However, there are some important differences between the two that may better suit you and your customers’ needs.
How Leasing Equipment Works
With a lease, one important distinction is that your customers don’t necessarily own the equipment outright, but it really depends on what the lease type is. In a Fair Market Value (FMV) or rental agreement, or a program like HaaR®, the customer doesn’t own the solution at the end of the term. Instead, you and your customer have a few options to decide from. These include upgrading the equipment into something new or returning it.
Many times, a rental makes the most sense for customers acquiring technology. That’s because it is good for equipment that quickly loses its value or becomes obsolete – such as laptops, computers and software. With these technologies, usage and keeping up-to-date are important, and so a lease makes the most sense.
Important Traits of Leasing
There are few other qualities that distinguishes a lease it from a loan. Here’s a quick look at what makes a lease unique.
- Fixed monthly payment
- Best for scenarios where equipment use is more important
- Good for equipment that quickly loses value
- Certain leases have great tax benefits for customers
- Inclusive of soft costs (installation, training, implementation)
- No advance payment or deposit required
- Frees up bank lines
- Flexible terms, payment arrangements and purchase options are available
- Easy to upgrade or add equipment throughout term
- Rates are not tied to credit risks
How a Bank Loan for Equipment Works
Similar to a $1 buyout lease, a loan for the equipment places the emphasis on owning it. In both cases, when the customer makes the final payment at the end of term, they will own the equipment and likely continue to use it.
A loan makes sense for customers who don’t have a need to use their bank lines for revenue-appreciating activities like marketing, hiring or inventory. It also makes sense if they plan to own and use equipment for a very long time. When equipment or technologies don’t have frequent improvements and upgrades, ownership could be the answer. For example, this is frequently the case with heavy machinery. If the customer can use the same equipment for 10 or 15 years then a loan is generally the way to go.
Important Traits of a Bank Loan
Just like a lease, loans have distinct characteristics that make them different. It’s important to understand these to make the best recommendations for your customers.
- Interest is amortized with more due at the beginning, and less at the end
- Rates can fluctuate and are tied to prime and economic factors
- Customer owns the equipment when loan is paid off
- The bank can put liens on their building or other assets as collateral
- They can use the same bank/financial institute they use for other credit
- Ties up their business credit and limits
- Limits customer’s ability to borrow for other investments
- Requires a down payment or deposit
- Inconvenient to upgrade or add additional equipment as needed
- Can be a rigorous approval process with an underwriting process
- Customers with less established credit may face higher rates
The Verdict: Equipment Leasing Usage vs Bank Loan Ownership
Both leasing and loans are wallet-friendly alternatives to acquiring equipment. Yet, there are more distinctions between the two than you’d expect! When your customers instinctively say they don’t need to lease because they can use a bank loan instead, or they don't need to finance because they have cash, you can highlight some of the differences and benefits to them. Chances are, they probably never knew about them.
Through a lease, they can invest their cash and credit into other areas of their business. They can have a consistent interest rate with no down payment. To top it all off, they aren’t investing into equipment that quickly grows and advances so they’ll be able to stay up-to-date. On the other hand, a loan allows customers to buy the equipment that they’ll eventually own. This means loans are usually a one-and-done transaction with a financial institute they already have a relationship with.
The best way to determine the best option for your customers is to consider the drivers behind their need to acquire the equipment. Let’s look at a few good questions to ask to determine the importance of their cash flow:
- How long will the equipment be required?
- Will the equipment become obsolete while it’s still needed?
- How much cash would be required upfront for a lease or loan?
- Are there any new initiatives they want to undertake that will require working capital such as expanding, hiring or R&D?
Use Case: Purchasing a Car vs. Leasing a Car
An easy example many people can relate to in their personal life is leasing vs financing a car. For a long time, financing your car with a bank loan has been the standard. You’d buy a car with the thought that eventually, your loan will end and you will own the car. You’ll plan to drive it for 10 or 15 years, and maybe even hand it down to your kid because by then, they’ll be ready to hit the road.
These days, leasing cars has grown in popularity. The technology in cars is rapidly improving. Hopping in a car 5 years old is entirely different than a new one. They also rapidly depreciate and lose their value. Due to this, many people prefer to lease their car so that they can upgrade to a new one at their leisure without being tied down and committed to a car that quickly fell behind the curve. Another great example is how popular leasing cellphones has become. These examples may help your customers see leasing technology in a new light.
For a quick comparison between a lease, loan and cash you can keep on hand and share with your customers, check out this PDF.
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