Used Equipment Financing vs. True Leasing: Which is Better for Your Business?

Key Takeaways:

• What is the difference between used equipment financing and true leasing

• Advantages, disadvantages, and risks of the two funding options for equipment purchase

• Cash flow management, tax deduction, interest rates, role of used equipment financing companies and other factors

For many U.S. businesses, equipment decisions are closely tied to long-term financial stability. Whether it is construction equipment, farm equipment, or specialized heavy equipment, the way you finance the purchase of the equipment is as much a determining factor as the equipment itself. Because of the increasing price of equipment, the vast number of financing options available and the unpredictable state of the economy, many small business owners are now thinking of used equipment financing options.

Equipment leasing, on the other hand, is also attractive to a significant number of businesses that have a preference for lower upfront cost and fixed monthly payments. Both true leasing and financing through equipment loans have advantages and disadvantages depending on each businesses' needs. However, they function differently as businesses progress through time.

In this article, learn how used equipment financing compares with true leasing along with their advantages and disadvantages. It also explores cash flow, tax benefits, depreciation, and long-term ownership comparisons and how these various components would affect the total cost of ownership for your business.

What is Used Equipment Financing?

The term ‘used equipment financing' refers to a type of business loan that allows the borrower to buy used equipment through a lender or financial institution, thus gaining ownership of the asset. In most instances, the purchased asset itself serves as collateral for the loan. Upon repayment of the loan in full, the business gets the full ownership of the equipment.

This type of equipment finance is common in the following industries:

• Construction equipment such as loaders and excavators

• Farm equipment including tractors and harvesters

• Manufacturing machinery

• Commercial vehicles and heavy equipment

Businesses often use used equipment financing to minimize the initial cash outlay required to acquire an asset, allowing them to retain working capital. Rather than paying the full cash purchase price for the equipment upfront, businesses can make monthly payments over time to cover the total cost of the asset.

Used equipment financing companies typically assess a variety of factors to determine eligibility for financing:

• Type and Condition of the used equipment

• Age of the used equipment

• The borrower's credit rating

• Financial Statements and Cash Flow

• Availability of Down Payment

As the business takes ownership of the used equipment, this type of financing allows the borrowers to refinance if they need to in the future if business needs change.

What Is True Equipment Leasing?

Unlike financing, in a true equipment lease the equipment is owned by the leasing company. The business is only paying for the right to use the equipment for a predetermined period.

A true lease is often called an operating lease. The lease option is very useful when:

• The equipment needs are short-term

• The technology in the industry changes very quickly

• The actual ownership of the equipment is too costly and not a major concern for the business.

With a true lease, the business returns the equipment to the leasing company at the end of the lease term. Certain leases provide renewal options or the ability to purchase the equipment at fair market value when the lease ends. There is no guarantee of ownership of the equipment.

Equipment leasing may seem like a simple solution, requiring little or no down payment and quick funding decision. However, to determine the overall cost of leasing equipment versus purchasing equipment, one must evaluate all costs associated with leasing over time rather than just focusing on monthly lease payments.

Structural Differences: Used Equipment Financing vs. True Leasing

The payment structure is not the only difference between used equipment financing and true leasing.

Ownership

• With used equipment financing, you own the equipment once you've financed it.

• With equipment leasing, you do not.

Balance Sheet Impact

• Used equipment financing creates both an asset and a liability on your balance sheet.

• Equipment leasing typically creates an expense on your income statement instead of an asset.

Flexibility

• With used equipment financing, the equipment can be sold or refinanced later.

• Equipment leasing generally has restrictions on how much it can be used and what you can do with it.

Understanding these structural differences helps borrowers determine how their financing needs and business needs will change over time.

Cash Flow Management

Cash flow is often an important consideration for firms when determining how they intend on obtaining financing.

For many businesses, leasing equipment is typically less expensive on a monthly basis than owning or renting it outright. Therefore, this option may provide a business with more control over short-term cash flow due primarily to lower monthly payments during lean months.

While used equipment financing equipment may provide more consistent cash flow strength over the long term, the lack of monthly payments after the loan has matured provides an additional opportunity for businesses to conserve cash.

Tax Treatment in the United States

In the United States, there is a big difference between used equipment financing and leasing equipment in terms of the way equipment is treated for tax purposes. It is advised to consult a tax professional before making any tax decisions.

Tax Treatment of Used Equipment Financing

When you finance equipment, you may be able to take an annual depreciation deduction on the equipment for tax purposes. To qualify for this benefit, the business must be eligible to do so under Section 179 of the Internal Revenue Code. The amount of the deduction is determined by the total purchase price of eligible property placed in service during the tax year.

As of 2024, IRS notes that the deduction limit is around $1.22 million, subject to be phased out at specified revenue thresholds. Bonus depreciation may also apply, although it is gradually phasing down under current tax law.

Tax treatment benefits can greatly decrease taxable income of a business that has consistent annual profits.

Tax Treatment of Equipment Leasing

Leases are typically deductible for tax purposes as an operating expense. This makes the tax reporting of lease payments much simpler. However, it does not provide any depreciation deductions or tax savings derived from the business owning the leased equipment.

The IRS establishes the rules governing the deductibility of lease payments as a business expense.

What Happens at the End of the Term?

End-of-term outcomes often reveal the true cost difference.

With used equipment financing:

• The equipment belongs to the business.

• It may still have resale value.

• It can continue supporting operations without monthly payments.

With equipment leasing:

• The equipment is returned.

• Renewal or replacement may be required.

• New financing needs may arise.

Businesses planning long-term use often weigh these outcomes carefully when evaluating financing solutions.

Total Cost of Ownership vs. Lease Cost

There's much more than just financing or competitive rates when you're reviewing the total costs of acquiring used equipment.

Consider some of the following factors when considering used equipment financing:

• Interest rates over the loan term

• Maintenance and warranty coverage

• Depreciation and resale value

• Financing rates and fees

Leasing may offer maintenance options as part of the lease, but it will typically require ongoing lease payments with no ownership equity.

The Small Business Administration (SBA) encourages borrowers to look at the total cost involved with purchasing equipment rather than only the initial cost when choosing equipment loan options.

Used Equipment Loan Rates and Influencing Factors

Used equipment loan rates vary widely and are generally influenced by:

• Credit score

• Loan term length

• Type of equipment

• Market interest rates

SBA-backed equipment loans may often offer fixed rates and longer repayment terms, which adds certainty to the terms of your loan.

Used equipment loans generally carry a higher interest rate than those pertaining to new items due to depreciation and differences between appraised values; however, when compared with total leasing charges, they can also be very competitive.

The Role of Used Equipment Financing Companies

Used equipment finance companies facilitate a transaction between possible lenders and those businesses that require equipment financing. They help to create financing packages for those businesses that meet their needs by assessing the following:

• Age and condition of equipment

• Financing needs

• Credit history and profile of the business

Some of the financing companies focus on financing heavy equipment and used machine bolts and other capital equipment while others work with private parties who are selling equipment or auctioning equipment.

Businesses should ensure that any financing companies they consider provide services in accordance with the registration requirements set forth by the NMLS when applicable.

Used Machinery Finance: Special Considerations

Used machinery finance often applies to older or specialized assets. These transactions may require:

• Detailed inspections

• Proof of maintenance history

• Appraisals

Although the warranty options might be limited, a person can still benefit from purchasing used machinery that has been well maintained.

What are the Risks with Used Equipment Financing vs Leasing?

The following list will illustrate the potential risks associated with financing equipment as opposed to leasing it:

Risks associated with used equipment financing:

• The equipment may become outdated within a short period of time.

• The cost of repair and maintenance will continue to increase as the equipment ages.

Risks associated with leasing equipment:

• You may encounter restrictions on the number of hours you can operate the leased equipment.

• You may incur a penalty if you terminate your lease agreement before the end of its term.

Tips for Choosing the Right Option

When evaluating whether to finance or lease used equipment, think about:

• How long you expect the equipment will be used

• Whether or not you have sufficient working capital available

• How this decision will fit into your overall tax planning strategy

• Whether or not you anticipate needing to refinance this equipment in the future

Conclusion

Used equipment financing and true leasing both serve important roles in today's business environment. Financing provides ownership, depreciation, and potential tax benefits. Leasing offers flexibility and lower upfront cost.

There is no universally better option. The right choice depends on equipment needs, cash flow stability, financing rates, and long-term business goals. Companies should focus on the total cost of financing/lease, tax implications, and operational flexibility when making this decision. By doing so, companies can build more efficient strategies that support longer-term growth rather than taking advantage of the short-term benefits associated with leasing or financing equipment.