There is often a debate in the heads of small business owners over whether they should buy that new piece of equipment or just lease it. It may seem to be a small question with only month to month ramifications, but that fact is that the choice made can affect your tax return as well. It may do so even if you do not intend for it to.
Knowing the differences in leases available, and how each is accounted for, is a huge must for any small business owner. The fact is, there are three options when it comes to equipment. You can buy it, you can lease it as a capital lease, or you can lease it as an operating lease.
Capital vs. Operating
An operating lease is basically the renting of equipment. It is more short term, there is no option to purchase at the end, and rent is expensed each month on the income statement. A capital lease is a whole other creature however. In fact, a capital lease is treated pretty much the same way as an equipment purchase. “Rent” is accounted for the same way loan payments would be accounted for, and the equipment is booked as an asset. As far as the IRS is concerned, a capital lease is a purchase.
What Make a Lease a Capital Lease?
Making payments on equipment with the option to purchase at the end of the lease for less than what you would pay for it otherwise is considered a capital lease. For example, if you lease a piece of equipment for $300 a month for 3 years, with the option to purchase it at the end of the lease for $500, while in another situation you would have to pay $1,000, the lease would be considered a capital lease by the IRS and therefore treated as a purchase because they feel you are essentially making payments toward the purchase of the equipment.
What Works Best?
In truth, it depends. With an operating lease you get to book rent expense. With a capital lease or purchase, you will likely get to deduct interest expense. The ramifications of this on tax a return depend on multiple variables. However, there are multiple advantages to equipment ownership that go beyond tax implications.
If small business equipment financing is something you are looking into, Biz2Credit can help. Visit Biz2Credit.com today for more information, and fill out our simple data collection form. We can use it to connect you with lenders from our network of over 1,200 that offer exactly what you are looking for in the line of equipment financing and leasing.