For a general contractor, equipment is often the second biggest outlay of capital after labor costs. Depending on how you acquire it, this equipment can improve productivity immeasurably…or it could prove to be a cash drain. Since you probably prefer the former, here is an aid to finding the best deal.
Buying your own equipment can make sense as long as you keep in mind the drawbacks as well as the advantages.
- If you own it, it will always be available, which is pretty convenient.
- Your equipment operators will have a chance to master a particular machine and learn all its little quirks.
- If it is the right piece of equipment for your primary business, it can increase productivity and, therefore, revenues.
- You can deduct liabilities such as depreciation, insurance, repairs, taxes, and interest from your taxes. As a bonus, the Tax Relief, Unemployment Insurance Reauthorization and Job Creation Act of 2010 (extended through 2016) provides for extra depreciation for the first year of ownership.
- If you are able to pay cash you can avoid many of the service fees, finance charges, and interest expenses inherent in taking out a loan.
- You are in control of when and how the equipment will be used, when you will sell it, or whether you will trade it in. If you bought into a brand with a high resale value, more of the upfront costs may accrue to you upon trade-in or sale.
- Owning equipment can build equity in your company.
- You are responsible for transporting, maintaining, repairing, and storing the equipment. You will also be responsible for disposing of it at the end of its working life.
- If you have to make a large down payment or high monthly payments, it can put a strain on your company’s bank account.
- Buying turns liquid assets into fixed assets. Liquidity is used to determine your ability to pay obligations.
- If the equipment sees a lot of hard use, the trade-in value will shrink.
- It is possible the machinery will become obsolete during your ownership, making it nearly impossible to trade-in or sell.
- If you are already writing off a lot of depreciation, more may cause you to pay Alternative Minimum Tax penalties.
- You are stuck with it whether there is growth or retraction of the construction industry or its customers.
BEST TIME TO BUY:
- If, and only if, you have the capital available.
- The machine is critical to your core business and you expect to use it often and for a long time. Alternatively, if the equipment is highly versatile and you can use it in multiple jobs, it may be a good buy for your company.
- You luck into a low-interest rate that can make purchasing feasible.
Leasing can be a good alternative to buying. It’s like a loan but at the end of the lease you can give it back and get a newer model. The lessor owns the equipment and keeps some of the headaches.
- Typically leases last about three to five years and you don’t make a down payment, so no cash is needed up front.
- You don’t have to worry about transportation, storage, or routine maintenance.
- You may be able to get a flexible lease payment arrangement for slow times.
- The payments are usually lower than for a loan or rental, making monthly budgeting easier. In addition, sales tax is usually rolled into the monthly payment so you don’t have to pay it all at once. Bonus: you can deduct those monthly payments as operating expenses.
- Leasing doesn’t affect your borrowing power or credit line* and you will have more working capital.
- Leasing can give you the chance to stay up-to-date on technological improvements, comply with new regulations, and decrease the risk of obsolescence.
- Those leasing costs can add up over time and you may wind up paying a higher cost for the equipment than if you bought it in the first place.
- The equipment you need may not be available when you need it.
- A long term lease can be difficult and expensive to break. Leases often have penalties for early returns.
- You may still be responsible for insurance, personal property tax, and/or damage fees.
- You could get taken by an unscrupulous lessor or wind up paying higher interest than you would on a bank loan.
BEST TIME TO LEASE
- You have sporadic workloads or short working seasons.
- It is cheaper to lease equipment that you will only use for a single project.
- You need to conserve capital for company growth or wages.
Renting equipment actually has a lot going for it without much downside. It depends on the type of projects you work on.
- You only pay for it while you use it. Because of that, you can add the rental price to the job pricing.
- You can give it back anytime and the rental payments are over. The contract period is extremely flexible with no long term commitment and no penalties for early return. This is especially helpful if a job falls through or it is a slow period for construction.
- It’s a great way to “test-drive” a piece of equipment you are considering. Rental companies often have the newest and best equipment because they renew their inventory regularly.
- Renting almost always includes maintenance. In the event of a breakdown on the jobsite, the rental company may be able to send a mechanic out right away to fix it, or simply replace the equipment for you.
- Renting reduces paperwork and administration. Budgeting is simpler because there is one invoice and one cost. Plus, the rental can be deducted as a business expense.
- Long term rentals can be more expensive than buying or leasing.
- The equipment you need may not be available on short notice.
BEST TIME TO RENT
- When the economy is uncertain or when you have peak times where you need to fill in your equipment fleet without taking on debt.
- When you need a very specific piece of machinery for a short time.
- If you have limited financial options.
- When there isn’t much of a backlog of work, indicating a downturn is coming.
Your best bet will probably be to do a mix of buying, leasing, and renting depending on your current and ongoing jobs. You and your accountant or tax advisor will know what your specific company needs. With the right mix, it can make meeting your obligations and setting a budget easier.
*A caveat for the future: the advantage of off-balance sheet leasing has been under review by the International Accounting Standards Board and the Financial Accounting Standards Board. They have issued a new guidance January 12 of this year stating that all lessees must transition to the new standards throughout 2018 and 2019.
After the transition, you will no longer be able to leave a lease off the balance sheet unless it is for less than one year. In addition, the purchase options will be considered a liability and all changes may be made retrospective, impacting your current leases.
Stay in touch with your tax advisor to learn more.
Steve Wright works for Whirlwind Steel Buildings, a manufacturer of pre-engineered steel buildings and components. Whirlwind Steel metal buildings are manufactured and designed to meet the highest quality standards. To learn more, visit http://www.whirlwindsteel.com.