When you need to hold on to the little capital that is available or you have a short term project, leasing equipment can be very beneficial. Even though it saves you from purchasing the equipment that you need, are there any leasing disadvantages worth noting?
As with every other form of financing equipment, leasing does have its disadvantages. The sole purpose of highlighting leasing disadvantages is because it helps lessees make informed decisions. Despite the fact that there are some disadvantages of leasing, there are measures that you can take to protect yourself from them. One of the ways that you can protect your business is by educating yourself on the processes and procedures associated with leasing equipment. A lawyer or an accountant that specializes in leasing can help you negotiate better terms and identify any loopholes that may put you at a disadvantage.
Some Of The Leasing Disadvantages
1. You Will Lose Your Tax Benefits
When you purchase your own equipment, there are certain tax benefits of depreciation deduction that you can enjoy. When you lease your equipment, on the other hand, you stand a chance of losing tax benefits if the IRS does not re-characterize your lease as a sale. The IRS may re-characterize your lease, for example, when they determine that a part of your rental payments ascertains equity in the leased equipment.
If however, the “lost” tax benefits are compensated by your ability to deduct rental payments or tax liability to be compensated by lost credit and deduction or if you do not have enough income, then tax loss benefits may be insignificant.
2. You Do Not Acquire Ownership Interest
One of the biggest disadvantages of leasing is that you won’t establish any equity in your leased property by making lease payments. This means that at the end of your lease, you will not have any equipment to show for your payments. What makes this a great disadvantage is the fact that you may have underestimated the value of the equipment at the end of your lease. You can easily lessen the risk by negotiating a purchase option whereby part of your lease payments will be credited to the purchase price of your equipment. This way, you will have effectively created equity in the leased equipment.
3. The Overall Cost May Be Higher Than If You Purchased The Equipment
Leasing equipment is almost always much more expensive than making a cash purchase. If you are considering leasing, multiply the monthly lease payments by the number of payments you agree to make. This will give you an idea of how much you are going to pay for the use of the equipment throughout the leasing period. Usually, lease payments are high because the leasing company has to compensate not only for the retained risk of continuing ownership but also for financing and acquisition costs. You should always do a thorough cash analysis before signing a lease so as to determine whether the overall cost will be higher than making a cash purchase.
4. Commitment To Property
Once you sign a lease, you have to pay for the equipment whether you are using it or not. Some leases are non-cancellable while others penalize lessees for early termination. Ensure that you read your contract thoroughly to see what your lessor says about cancellation or early termination of your contract.
5. You Might Face Additional Expenses
Some leases allow you to purchase your equipment at the end of your lease but that is usually on top of what you have already paid for the lease itself. Depending on the type of lease you signed, you could purchase the equipment at $1, 10% of the original price of the equipment or at fair market value. Remember that being locked into a lease ties up your funds and if you adequately fail to plan out your financial terms for the lease, you might end up failing to pay installments. Before entering an agreement, you should have a concrete plan of how you will finance your lease.
6. You Will Be In Charge Of Maintaining Your Leased Equipment
Depending on which type of lease you get into, you may be required to maintain your equipment. This means that if your equipment breaks down, you will be in charge of repairing it and replacing any broken parts. This can be very costly and you would be paying for maintenance of equipment that does not even belong to you. Once again, this highly depends on the type of lease agreement you get into so it is very important that you have a lawyer go through your contract before signing it.
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