From the February 1998 issue of Entrepreneur

One of the greatest obstacles for entrepreneurs ready to expand their businesses is finding the cash to upgrade and buy additional office equipment. Sinking most of your hard-earned capital into needed computers, copiers, fax machines, phone systems and furniture can drop you into a bottomless money pit. Securing a bank loan is an alternative, but while you can use the bank's money for your purchases, you may be required to come up with the standard 20 percent down payment. In addition, bank loans usually offer little flexibility in the length of the loan, and they may not be totally tax deductible.

Before begging your reluctant banker for a loan, consider an option that keeps many small businesses afloat: leasing. According to the U.S. Department of Commerce, 80 percent of all U.S. companies lease all or some of their equipment. Most established businesses prefer leasing to avoid technical obsolescence without overspending. According to the Equipment Leasing Association of America (ELA), 77 percent of all leased high-tech equipment in the computer industry is either replaced or upgraded within 24 months.

Greg Loeschke of Farm Credit Leasing in Minneapolis advises customers not to confuse loans with leases. "A loan requires a [company] to invest a down payment in the equipment, or a first-and-last payment, and to finance the remaining amount, whereas a lease requires no down payment and finances only the value of the equipment expected to be depleted during the lease term," he says. "Securing a loan usually requires the borrower to pledge other assets for collateral," while collateral is usually not needed to secure a lease."

Anything And Everything

Think your equipment needs go beyond the scope of most leasing companies? Think again. Today, you can lease just about anything, from construction cranes and office security systems to computer software. Credential Leasing Corp. in Harrisburg, Pennsylvania, leases medical, printing and production equipment, as well as construction, communications and office equipment to businesses in all 50 states, equipment that would range in purchase price from $1,000 to $400,000.

As more and more business owners realize the vast options available, many are turning to leasing. John Pantalone, owner of J.P. Southern Industries in Barrington, New Jersey, started his commercial horse-racing photography business in 1972, but it was 10 years before he realized the advantages of leasing.

"If I'd known about leasing before I opened my business, I could have saved myself lots of financial headaches and needless worry," says Pantalone, 54. "When I opened my business, I spent agonizing weeks arguing with banks for loans because I had no company financial statements to show them. I had nowhere near the $4,000 worth of photo equipment I needed. I finally managed to find some used equipment I could afford, but it wasn't my first choice. After I discovered by trial and error that leasing was an option, I never looked back. After 15 years, I still lease-purchase photo processors and computers for myself and six employees. Technology advances so quickly, I need the latest equipment to remain competitive."

When one of Pantalone's photo-processing units was almost at the end of its lease, he opted for a buyout, which gave him ownership; then he turned around and sold it for $2,000. "I made $1,500 on the deal after buying out my lease for $500," says Pantalone.

Pantalone leases through Advanta Corp., a financing company that services nearly 6 million customers. "We're big, but small-ticket leases are [also] a very important part of our business," says Jacqueline Kohler of Advanta, which is based in Voorhees, New Jersey. "We work directly with businesses and through manufacturer/dealer financing programs."

That's good news for small businesses, which are getting into the leasing act more than ever before. The ELA reports small business is one of the biggest markets turning to leasing. "Companies that lease now tend to be smaller, growth-oriented, focused on productivity, and more technology-oriented," says Suzanne Jackson of the ELA. "These are the companies long on ideas, short on capital, and in need of flexibility as they grow and change. They lease for efficiency and convenience."

A Look At The Benefits

Efficiency and convenience are two things small-business owners can't get enough of. But what else is luring them away from buying equipment? For businesses that need equipment and need it now, leases are a speedy alternative. While banks can take weeks to approve business loans, leases are often approved overnight, with far less paperwork and looser credit requirements.

"We process lease documents by fax, with fast turnaround," says Steve Brooks, president of Lease Consultants Corp. in Des Moines, Iowa, whose company purchases equipment from dealers and then leases it to customers. "We [offer] credit approval and authorizations with a minimum of red tape, and documentation that's easy to understand," says Brooks.

In addition to freeing up your cash and leaving your conventional lines of credit open, leasing also offers tax advantages, Brooks points out. Lease payments are usually 100 percent tax deductible as a business expense, while bank loans are not.

Businesses that have maxed out their credit options and don't have the extra cash to sink into an assortment of equipment are finding relief in leasing. Scott Olsen, co-owner of Colex International, a collection agency based in Huntington Station, New York, found the toughest part of getting his business off the ground in 1994 was getting credit. "All I had at that time was $5,000 and some letterhead. I needed a computer, copier, laser printer, phone, voice mail and furniture," says Olsen, 41. "My initial inquiries were to my bank for a loan, but they wanted financial statements, and I had none. My first financing came through a computer manufacturer, who leased us three units. Today, with 22 employees, we have 15 leases for more than $100,000 worth of equipment."

Olsen cautions, however, that one drawback of leasing is that he has to personally guarantee payments. "Still," he says, "that beats taking a second mortgage on my house."

How It Works

Leasing offers 100 percent financing for equipment, furniture and other items you may need to run your business. When you lease equipment, a company, such as the manufacturer, dealer, broker or financial institution, either buys or already owns the equipment you order from them. In exchange, you make monthly payments to the leasing company. At the end of the lease, you typically have the choice of buying the equipment, returning it or extending the terms of the lease.

First and last payments are often required upon signing a lease. Generally, there are three ways to lease equipment:

1. You select and order it, then seek financing through a lessor.

2. You lease through dealers and vendors who have their own subsidiary leasing companies.

3. You acquire the equipment from a lessor, which buys the equipment from the manufacturer, then leases it directly to you.

Leasing companies charge customers a monthly rate, much like interest payments on a loan, but the rates are usually low and depend on the length of the lease, cost of the equipment and the type of lease you choose. The Lease Rate Factor determines your monthly payments and shows up on your bill as a percentage, fraction or decimal equivalent of the cost of the equipment. For example, a factor of 0.0360 on $5,000 worth of equipment requires a monthly payment of $180 (.0360 x $5,000 = $180). Leasing companies, such as Lease Consultants, have rate charts that state their terms and can schedule payments to be paid on the 1st, 10th or 21st of each month.

What's Your Type

There are a plethora of lease types available to small-business owners. Two of the most popular are operating leases and finance leases. The first has a term that is shorter than the expected, useful life of the equipment because the lessee is not expected to use it for long nor do they wish to buy it at the end of the lease. Operating leases allow you to lease expensive equipment at a fraction of its total purchase price.

Much simpler is a finance lease, which tends to cost less because of the longer term and lower residual risk. Typically, this is a full-payout, noncancelable agreement in which the lessee is responsible for maintenance, taxes and insurance. However, the equipment may be considered a depreciable asset and be listed as a liability on your balance sheet.

A fair market value lease, sometimes called a true lease, has the most options and is usually recommended for SOHOs, which sometimes put up a small security deposit and make relatively low monthly payments. At the end of the term, the lessee has the option of extending the lease, returning the equipment or buying it at fair market value. Like most of the other leases mentioned here, this lease qualifies under IRS regulations as allowing the lessor to claim ownership and you (the lessee) to claim rental payments as tax deductions. Why? Because operating-lease payments are treated as a business expense, not a liability, and can be deducted immediately from operating income.

A $1 buyout lease is good if you're fairly certain you'll want to buy the equipment when your lease expires. While $1 makes you the owner, monthly payments are typically higher than with other leases. The terms of this type of lease may differ from state to state because of certain state sales tax laws that may view the lease as an installment sale; this can determine who pays the tax, the lessor or the lessee.

There are several other leasing plans that incorporate some or all of the above, including seasonal, step-payment and sales/leaseback plans, that can be tailored to your business's needs.

Some leases offer a bargain purchase option, allowing you to buy the equipment for a price determined at the start of the lease that is substantially lower than the expected fair market value at the end of the lease. A master lease is a contract whereby you lease currently needed assets and are later able to obtain other assets under the same basic terms and conditions without negotiating a new contract.

And the choices don't stop there. Leasing companies incorporate their own variations into the general types of leases noted above to attract businesses looking for the best deal. Advanta Corp.'s TechSmart program, for example, lets businesses upgrade equipment without terminating their leases. "TechSmart provides clients with the latest equipment every 18 months--halfway through a lease--which gives companies great flexibility to try new technologies without being tied into three years of financing," says Kohler.

Lease terms usually vary from six months to six years. Most, however, are for 36 months and can include periodic maintenance, insurance and discounts on parts such as toner. To determine which type of lease is best for your company, you and your accountant should consider how long you want to use the equipment, what you intend to do with it at the end of the lease, how your cash flow and tax situation will be affected, and what your company's present needs are as they relate to future growth. Some types of technology, such as state-of-the-art data processing systems, are updated very frequently, so lease agreements should contain clauses to cover constant upgrades if your business requires them.

The Investigation

Before you sign any lease, be sure you understand all the terms and conditions of the agreement. If you decide two months after you sign the lease that you don't need the equipment or need another type of equipment, you could be out of luck. Some companies won't release you from the contract, which could leave you paying for unneeded equipment for years; others will charge you a hefty fee to terminate the contract.

Your accountant can help you decide whether leasing is a good option for you and recommend the types of leases that are good for your specific needs. Go over the following questions with him or her, then grill the company you plan to lease from.

  • What specific types of equipment do I need to grow my business? How long will I need this equipment?
  • What can I afford in monthly payments?
  • How are the payments calculated? Can I get a three- to five-year cost analysis?
  • What are the tax pros and cons?
  • Can I get a sample copy of the lease being offered so my accountant and I can study its terms at our leisure?
  • How is this lease terminated?
  • What are the buyout options? Are they negotiable?
  • Can I upgrade at no cost? If so, within what time limits?
  • How flexible is the payment schedule?
  • Are there any incentive programs available?
  • What's the average turnaround time on my application?
  • What are the conditions for servicing or replacing the equipment? Do you have 24-hour maintenance service?
  • What are the maintenance estimates on the equipment? Am I responsible for ordering and paying for replacement parts, such as printer toner?
  • Are shipping costs, installation, training or warranties included in the payments?
  • Will I be charged documentation fees? What are the late-charge fees?

Once you've answered these questions, slow down. Don't jump into the first lease offered. Take the time to shop around for the equipment you need and the lease that is most appropriate for your cash flow, business needs and income. When you accept the delivery, check out the equipment thoroughly to make sure it meets your specifications. Above all, don't sign up until you understand every clause in the lease you're considering and its implications for your future growth. Ask questions and get responses in writing, if necessary. Leasing office equipment can be a boon to entrepreneurs who are short on capital but long on potential; just make sure you understand how it affects your financial picture and future growth.

To The Source

In most cases, retailers who sell the equipment you're seeking handle the paperwork for leasing agreements. They may have their own financial institutions behind them, as does CompUSA (800-266-7872), a national computer superstore, or you'll be referred to recommended leasing companies.

You can also find leasing companies by searching in your local Yellow Pages under "Leasing Service" (most have toll-free phone numbers) or by calling the Equipment Leasing Association for a referral of leasing companies in your area that have bona fide reputations.

The majority of manufacturers of computers, printers, fax machines and phone systems have Web sites. If you don't know the Web site address, just type in the brand name, such as Toshiba, in any of the search engines, and you'll be connected to the manufacturer's home page. Log on, and you'll find sales and leasing information. IBM's home page states it has fast and flexible lease options and lists a toll-free phone number. Compaq's home page offers details on its leasing program for its Armada notebook computers through Compaq Capital Corp.

Here is a sampling of leasing companies, as well as some of the manufacturers that handle their own leasing arrangements:

Name of company: AT&T Capital Corp.
Types of equipment:
Telecommunications, vehicles, computers, furniture.
Phone number:
(800) 235-4288
Web site:
http://www.attcapital.com

Name of company: Lease Consultants Corp.
Types of equipment:
All office equipment, computer software.
Phone number:
(800) 325-2605
Web site:
none

Name of company: Farm Credit Leasing
Types of equipment:
Telephone switching equipment, vehicles, transformers, portable generators.
Phone number:
(800) 444-2929
Web site:
http://www.fcleasing.com

Name of company: KIS Group Inc.
Types of equipment:
Copiers, computers, vehicles, telecommunications, office furniture.
Phone number:
(800) 828-9643
Web site:
kisgroup@usa.net

Name of company: Credential Leasing Corp.
Types of equipment:
Computers, communications, construction, medical, printing, restaurant.
Phone number:
(800) 895-1201
Web site:
http://www.credentialleasing.com

Name of company: GE Capital Corp.
Types of equipment:
All office equipment, vehicles, heavy machinery.
Phone number:
(800) 243-2222
Web site:
http://www.ge.com

Name of company: Atlanta Business Services Corp.
Types of equipment:
All office equipment, medical, security, photography, heavy equipment, vending, cleaning, restaurant.
Phone number:
(800) 255-0022
Web site:
http://www.advantalease.com

Name of company: HPSC Inc.
Types of equipment:
Health-care, medical, dental, computers.
Phone number:
(800) 255-2488
Web site:
http://www.hpsc.com

Name of company: GATX Capital Corp.
Types of equipment:
Vehicles, heavy equipment.
Phone number:
(800) 227-4636
Web site:
http://www.gatxcap.com

Name of company: Dana Commercial Credit Corp.
Types of equipment:
All office equipment.
Phone number:
(800) 225-0513
Web site:
http://www.dcc.com

Name of company: Equipment Leasing Association
Types of equipment:
N/A
Phone number:
(703) 527-8655
Web site:
http://elaonline.com

Pros And Cons

Advantages:

  • Most lessors agree to 100 percent financing, which leaves your working capital and lines of credit free.
  • Easy acceptance with quicker and more liberal credit approval and less paperwork than applying for a bank loan.
  • Equipment upgrades, usually at no extra cost.
  • Reduced risk of technological obsolescence.
  • Major tax benefits because most lease payments may be counted as operating expenses and deducted as such each month throughout the tax year instead of annually.
  • No down payment or collateral required.
  • No variable interest rates that are affected by the fluctuations of the market.
  • Some lessors permit flexible payment schedules if your business is seasonal.
  • An option to buy at the end of a lease gives you the opportunity to decide whether your business strategy still requires the same equipment or whether you should move on to other merchandise.
  • Unless you sign a finance lease (see the "What's Your Type?" section above), your lease payments are not listed as a liability on your balance sheet, so your financial picture looks brighter.

Disadvantages:

  • You do not own the equipment and cannot sell it unless you opt for a buyout.
  • A long-term lease can lock you into equipment you no longer need.
  • You may prefer to consolidate with a single bank loan to cover all your office expenses instead of several different payment plans.
  • There may be penalties for terminating a lease.
  • Leasing debts can stress some people out; after all, you're borrowing money.
  • If service is poor, you have little recourse.
  • Equipment insurance is usually not included.

A Tale Of Two Leases

I'll never lease again," says Virginia Bader, owner of Virginia Bader Fine Arts, an aviation art gallery in Santa Ana, California, whose experience with a mailing equipment dealer has soured her on leasing. "I'd always preferred to own my office equipment and to save up to buy what I need rather than commit to what seemed like endless payments."

However, when the mail order side of her business suddenly exploded, she decided to automate it for faster turnaround and checked out two local dealers. The first didn't respond as quickly as she liked, so after waiting a few days, with ever-increasing pressure for customer orders to be filled, she was ready to sign "anything" when the second sales representative showed up at her office. But Bader admits she didn't read the fine print in the lease she took on four years ago and which still has three years to run.

"The contract was so complicated and obtuse, and I was in such a hurry because of the business growing so quickly, I just signed on the dotted line," Bader admits. "A year later, my business went through a recession, and we made changes in our direct-mail system. We use an outside mailing company now instead of sending our catalogues out ourselves, so I don't need this sophisticated equipment. I tried to have it downgraded to a smaller, less expensive unit, but the dealer refused to make any changes. I am still stuck with a lease and equipment I no longer use. It's sitting in my stock room."

Bader acknowledges she didn't do her homework or think through the implication of the lease and the potential expansion or reduction of her company before signing. She was also unaware that she had to pay extra for a maintenance agreement and that the unit required new toner, at $129 per cartridge, every six weeks.

"If I'd taken the time to read up on how to lease, I'm sure I'd have avoided the pitfalls," she says. "A lot of money was involved here." Bader would consider leasing again only if she had no other financial alternative.

On the other end of the spectrum is Jerry Linder, owner of Electro Security Co. in Van Nuys, California, who has only good things to say about leasing. And he sees it from both sides: Linder not only leases fire alarms, burglar alarms and other security systems to his customers, but he is also a lessee himself--of a computer, several vehicles and the Central Station Monitoring System his company uses to monitor customers' security systems. Even if his customers choose a buyout option for their security system hardware at the end of their leases, he continues to lease them monitoring services.

"I'm very pleased with our own office contracts," Linder says. "Only once did we have a problem with a copier we leased. It was defective. The service people were very unsympathetic, so we stopped payment. Eventually, after legal threats from both sides, the serviceman came by and fixed the machine to our satisfaction."

Linder recommends reading the fine print in any lease very carefully: "Some leasing buyouts we looked at were 20 percent, which was way more than the equipment would have been worth at the end of the lease," Linder says. "You need to shop around for the best deals. Our rule of thumb is to lease equipment and vehicles for two years, then take the buyout option."

Contact Sources

Advanta Business Services Corp., (800) 255-0022, http://www.advantalease.com

Colex International, (516) 271-2300, ext. 106, fax: (516) 271-2395

Credential Leasing Corp., (800) 895-1201

Equipment Leasing Association, (503) 402-1338, http://elaonline.com

Farm Credit Leasing, (800) 444-2929, http://www.fcleasing.com

J.P. Southern Industries, #5 Hearne Dr., Barrington, NJ 08007

Lease Consultants Corp., P.O. Box 4972, Des Moines, IA 50306, fax: (515) 255-0147

Virginia Bader Fine Arts, (800) 233-0345, (714) 263-1404