- Created on Tuesday, 03 January 2006 04:08
- Written by MARK E. BATTERSBY
Today, renting, leasing and buying through financing are simply tools of the trade for many financial professionals. Unfortunately, when it comes to the question of whether a laundry should rent, lease or own the equipment used in its operations, few laundry owners or managers seem able to accept the fact that there is no one right answer that fits everyone or every situation.
When a business is starting up, buying equipment is one way to build equity in the laundry operation. As the business matures and builds a sound financial platform with strong net worth, then questions such as: is the value of depreciation on my equipment worth more to me than, say, my ability to make payments and keep debt off my balance sheet?
Leasing, instead of purchasing can be a cost-effective option, especially for those laundry operations that don’t have cash on hand but need the equipment. In fact, many -laundry operations that do have cash to invest have found that by leasing, they can regulate their cash flow more effectively.
Who leases? Everyone does, at least according to the Equipment Leasing Association (ELA), a leasing industry group based in Arlington, VA. The ELA claims that 80 percent of U.S. businesses lease all or some of their equipment. In fact, more businesses, particularly small businesses, acquire their new equipment through leases than through loans.
To many laundries leasing is for the long-term, one year or more, while renting can be for a day, week or even a month or more. And, with over 12,000 rental centers operating in the U.S. and Canada, equipment rental is a growing business. More and more laundry operations are using rentals as their primary source of equipment acquisitions, not only to meet specific equipment needs on projects and jobs.
Many launderers claim that when factors such as downtime, servicing, costs, storage, insurance and disposal are considered, rental is frequently the least expensive option. The financial benefits of renting include higher profits, tax benefits and the ability to take on larger, more profitable jobs. After all, laundry operations that rent don’t have to buy, maintain and haul equipment from job site to job site.
COMPARING APPLES AND ORANGES
Leasing usually means lower monthly payments than are possible with a loan. With leasing, the laundry operation conserves its working capital and avoids cash-devouring down payments. On the downside, leasing means paying a higher price over the long term.
There have long been incentives in our federal and state laws to invest in new equipment. All-too-often a laundry business cannot use those incentives. Thanks to leasing, however, many of those tax incentives and benefits can be passed through to a laundry operation in the form of low rental payments. After all, the owner of the equipment, the leasing company, utilizes the depreciation or credit incentives, passing the savings along in the form of lower equipment lease costs.
OFF-BALANCE SHEET NOT OFF-THE-BOOKS
Two kinds of leases are generally used today: operating leases and finance leases. Deciding which to choose depends on the laundry operation’s cash flow, equipment needs and its credit worthiness. An operating lease can be compared to renting equipment, occassionaly with a long term option to buy. Users enter into an operating lease for a period of up to 75 percent of the equipment’s life. During that time, the laundry business leasing the equipment pays only a portion of what it is worth, based on the term of the lease and the residual value left at the end of that lease.
Unfortunately, this also means that the laundry/lessee forfeits the depreciation deduction for the equipment; that deduction belongs to the vendor or finance company. Should the laundry operation decides it will keep the equipment, at the end of the lease’s term, the purchase price is normally based on the residual value of the equipment, usually at or above market value.
This is not always the case with a so-called finance lease, which sets end-of-lease purchase prices before the lease goes into effect. Finance leases are more like true rent-to own scenarios. Those laundry operations that want to own their equipment at the end of the lease, but don’t want it on their balance sheets at all, choose this option.
APPLES AND ORANGES
Is your lease really a lease? Under our tax laws, it is a narrow line between a lease and a purchase disguised as a lease. As defined by the tax rules, a capital purchase has occurred if the terms of the lease agreement contain one of the following criteria:
- You have a “bargain buyout” in which you can purchase the equipment for a token amount at the end of the lease.
- You are leasing the equipment for 75 percent of its useful life.
- The total payments made during the period of your lease equal more than 90 percent of the fair market value of the equipment. Keep in mind that payments include finance charges and sales taxes and they need to be deducted to find the true price you’re paying for the equiment.
The ever-vigilant Internal Revenue Service frequently challenges leases as disguised purchases - which means you would not be able to deduct your monthly payments. Back taxes, interest and penalties can add considerably to the cost of any equipment acquired in a disguised purchase.
In general, laundry operations with a strong cash position and good financing options can often buy needed equipment outright. If obsolescence is a concern, a short term operating lease or rental will provide the biggest advantage and the most flexibility. However, if cash flow is an issue and the equipment must remain operable for longer periods, a long-term capital lease with a fixed residual payment will usually result in lower monthly payments.
But is leasing the right option for your laundry operation or business? Weighing all of the factors unique to your operation may surprise you.
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