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Should you lease or buy?  As a small business owner, you will probably find yourself leasing a portion of your equipment.  There are advantages and disadvantages to leasing.  Our expert below lists the disadvantages that you may encounter and offers up solutions for what to do in these situations.

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Should you lease or buy?  As a small business owner, you will probably find yourself leasing a portion of your equipment.  There are advantages and disadvantages to leasing.  Our expert below lists the disadvantages that you may encounter and offers up solutions for what to do in these situations.

1. Unregulated industry

One of the concerns with regard to using leasing as a means to finance capital equipment or technology is the leasing company itself.  It is important to work directly with funding sources rather than with intermediaries and middle men, known in the industry as “brokers”.  Some of the right questions to ask of the leasing company to avoid paying extra fees or higher rates and running the risk of having the paper sold are: a) Equipment Leasing Association member? b) Direct lender funding for their own portfolio?  c) Will paper be sold?

2. Vendor relationship

Oftentimes, the leasing arrangement is made by the vendor selling the equipment as a result of a relationship it enjoys with the funding source unless the financing is being offered as part of a captive leasing program.  It is a good idea to call an independent source for a competitive rate quote just to “keep the vendor honest” and to eliminate some of the fluff that can be added to the rate in the form of commissions and sales incentives.

3. Hidden costs

Several leasing companies derive additional fee income from hidden costs such as interim rent, documentation fees, Uniform Commercial Code (UCC) filing fees, re-stocking charges, quarterly payments, commitment fees, application fees, etc.  These costs have the effect of increasing the leasing companies’ yields dramatically. Ask about any of these costs prior to signing the contract. It might also be a good idea to have an attorney read the contract depending on the amount financed.  It might be worth an hour of an attorney fee to save thousands of dollars in hidden costs over the term of the lease.

4. Understand the terms and conditions of approval

Oftentimes, a lease contract is secured not only by the equipment being financed but also with a personal guaranty(s) of the owner(s) of the business.  In certain cases, this may be justified based on credit scoring and amount of time in business; however, in other cases, it is an overreach on the part of the leasing company and can be negotiated out of the agreement.

5. Complicated documents

Many leasing companies rely on very complicated and cumbersome lease documents that are significantly one-sided and can contain provisions that might be disadvantageous for the lessee.  Make sure you are using a leasing source that relies on plain English lease documents that are simple and easy to understand and make sure the leasing company is flexible on certain issues that are important to your business.

6. Don’t own equipment

The main disadvantage of leasing is you do not own the equipment during the term of the lease.  Since you don’t own the equipment, you are unable to sell it in the event it is no longer needed, and you are unable to modify the equipment without written permission and authorizations. Improvements to the equipment will not be recovered at the end of the lease.

7. End-of-lease options

With regard to end-of-lease options, those businesses selecting a true lease must concern themselves with the purchase option imputed into the lease rates.  With respect to Fair Market Value (FMV) contracts, it is a good idea to ask the leasing company what they normally bill at termination for the equipment you plan to lease.  Many leasing companies look at the end-of-lease options as a way to maximize their yields and justify lower running rates over the stream.

8. Usually more expensive than bank financing

The leasing arrangement is usually more expensive than bank financing.  Consult your banker to see if the bank might be willing to write a lease contract instead of a loan agreement at a lower rate than you might expect from a third party or captive lessor.  This is not always an available option, but several banks do have leasing products for their preferred customers, which is not always well-published information.

9. Responsible for equipment maintenance and keeping the equipment in good service

At the end of the lease, you will be required to pay for shipping costs to send back to the lessor if you do not exercise option to purchase (assuming there is an option to purchase).  You are required to return the equipment back in sound condition as stipulated in the terms and conditions of the lease, and you might be responsible for certain costs borne by the lessor should the equipment not be up to those standards.

10. May be subject to out-of-pocket expenses

Many leasing companies do not allow for the financing or ancillary costs such as software, services, training, implementation, consulting, etc., so you will be subject to out-of-pocket expenses for these important and expensive items.  Make sure the leasing company is willing to provide a turnkey financing program that covers all these costs.

11. Significant penalties for early payment

Make sure that you negotiate for a fair early payoff in the event the business plans change and early pre-payment becomes a necessary alternative.

12. Insurance costs

Most leases require the lessee to pay for insurance costs, and, if you don’t provide proof of insurance, the lessor can “force place” insurance which can be more expensive than that you can provide yourself.

13. Paying all tax consequences including use tax and property tax

While not inappropriate, it is a good idea to have the lessor double-check the math for you so you know how the tax impact is determined and what your additional payment will be on a monthly and annual basis.  Because different lessors have different standards for computing tax, this is a very important item that can result in saving some money if you take the time to ask the right questions. It is always a good idea to consult your accountant to make sure you have structured the lease to take advantage of the various tax benefits still available depending upon the type of lease product you have selected. Any lease with a “bargain buyout” usually defined as less than 10 percent of the original cost of the equipment is not a true lease.  Ask about section 179 benefits for these finance contracts.

14. Non-cancelable contracts

Most leases are non-cancelable contracts, and generally the business is committed to making payments for the duration of the lease term, whether or not you stop using the equipment or the equipment breaks and becomes useless.  There are usually stiff penalties for early termination.  In cases where you are looking to upgrade into new technology, the leasing company should have favorable provisions for making that a relatively easy and inexpensive process.

Source:  Dean Morrison, Managing Director for Dimension Funding, can be reached most easily on his cell phone, 954-224-3390 or by email at  dmorrison@dimensionfunding.com.