Equipment Financing: How it Works and How to Apply for It
Business owners know that purchasing the latest gadget or equipment isn’t only made just for the sake of it. It’s done for the overall progress of the business. Having the equipment you need is the difference between progress and being left behind by your competitors. It means good workflow and also maximized productivity. However, business owners also know that purchasing new equipment can put a huge strain on the cash flow. But that is what equipment financing is here for. Here, we will discuss what is equipment financing, what rates and terms you can expect, and what qualifications you need for it.
What is Equipment Financing?
Equipment financing is using a loan to provide you and other business owners the necessary capital to purchase or borrow hard assets aka equipment for your business. This covers every physical asset your business might need for instance a company car, a freezer, a restaurant oven, a backhoe, and everything of the like. What makes it different from other types of loans is that the asset you’re purchasing also serves as your collateral. If you default for any reason, your lender can repossess the equipment to secure your balance and any additional costs. This often makes it lower risk and more cost-effective than other loans.
Equipment Loans vs Leases
There is more than just one way to secure equipment for your business. One is securing an equipment loan and the other is getting an equipment lease. Here is the difference between the two.
Equipment Loan
With this, you borrow funding specifically for the purpose of buying a piece or pieces of equipment. The equipment serves as your collateral and when you can no longer pay the rest of the loan, your lender repossesses it as payment.
The catch with this is that most lending institutions will only agree to pay 80% to 90% of the entire price. You’ll have to shoulder the other 10%. The entire cost of the loan can also be higher than the price of the equipment if you just bought it outright. But if you can’t secure the funds to purchase the equipment outright, this is still a pretty good deal to take.
Oftentimes, the total amount you’ll be paying for your loan would depend on the interest rate, how much you borrowed, and the term length. Interest rates vary per lender but you can expect roughly 8% to 30%. This also depends on a number of factors including your credit rating (the higher, the better) and how long you’ve been in the business. This type of financing would fit business owners who need equipment for the long term but can’t afford to pay it outright at the moment.
Equipment Lease
Instead of borrowing money, you’ll be directly borrowing equipment with an equipment lease. The lessor will be maintaining ownership of the equipment and you’ll be paying a fee to use it. Some lessors will also give you the option of purchasing the equipment at the end of the lease period.
Plenty of business owners get themselves equipment leases because of the lower monthly payments. However, in total, it can be a lot more expensive than loans because they carry higher interest rates. This kind of arrangement can be very beneficial though for business owners who often need to trade out equipment or for those who don’t have the funds to pay the down payment of a loan.
Loans vs Lease: What To Consider
Both options can be beneficial to you depending on your need. Before plunging into any of the two, take these four things into consideration first.
Monthly Payment: Think of how much you’ll be willing to pay each month for the equipment. If you’re on the lower side of the budget, a lease might be worth considering. If you plan to purchase the equipment at the end of the term though, remember that you may have to pay all or a portion of the cost of it. It may cost more than the original price. The same goes with loans.
Length of Equipment Use: If you’ll only be using the equipment for a year or two, it might be better to consider a lease. More than that though, you might want to consider a loan. Leases allow you to get access to the equipment in the time frame you need it without the burden of full purchase. But a loan is also less expensive in the long run especially if you’ll be using the equipment for a long time.
20% Downpayment: Lenders would often only shoulder 80% to 90% of the total cost of the equipment. So if you can’t afford to pay the remaining 10% to 20%, leasing may be a better option for you.
Life of Equipment: Aside from how long you’ll be using the equipment, you also have to consider how long before it wears out or becomes obsolete. If it’s on the quicker end, leasing might be the better option for you. When looking for a lease though, make sure that the equipment you’ll be leasing also isn’t near the end of its term.
Qualifying for an Equipment Loan
Equipment loans can be quite conservative although lenders will have varying requirements for you to be able to obtain a loan. Here are some general qualifications they will look for.
Good Credit Score: Your personal credit score is one of the most important things a lender will look at. The higher it is, the better and the lower the interest rates you might get. Oftentimes, lenders will be looking for credit scores 600 and higher.
Business Plan: Lenders would often want to see how you plan to grow your business. The goal is to give them a comprehensive summary of your business history and the plans you have in line for the future. Some lenders would also look for the number of years you’ve been in business and your annual revenue.
Balance Sheet or Cash Flow Statement: Lenders want to make sure that you’re able to pay the loan and that they’ll only have to resort to repossessing your equipment as their very last resort. These statements help them assess the strength of your financials and helps them make the decision whether to approve your loan or not.
Where to Get Equipment Financing
There are plenty of ways business owners can get equipment financing. And it all depends on the current status of a business. Here are some ways you can get equipment financing.
1. Traditional Lenders
Traditional lenders have better rates and terms. The only downside to them is that they have stricter requirements. This type of lenders is more suited to business owners who have already established their businesses and who have great assets and strong cash flow.
2. Specialized Online Lenders
Unlike traditional lenders, online lenders typically have more lax requirements. But along with that comes terms and rates that are less favorable. However, startups or businesses that don’t have the necessary minimum credit can benefit from these lenders.
3. Other Cash Sources
If the other two weren’t suited to your needs, you can also purchase your equipment via invoice financing or factoring or business credit card. You can also look for an angel investor.
Equipments are expensive but they are necessary to grow your business. In general, if you’re a frequent upgrader, leases would be better suited for you but if you’re investing for the long haul, then a loan may be better for you. Regardless of which you choose, make sure to do the math before plunging in. Also, don’t forget to seriously consider every factor involved so you’ll be able to maximize your equipment loan or lease.