Do understand there are exceptions to every distinction. It depends on the content of a purchase or lease agreement. But, the differences listed above are most common.

Ownership of equipment does not necessarily lend itself to a greater company net worth. Remember that notes payable, whether a lease or loan, reduce net worth. Depreciation from the purchase of equipment also reduces the value of fixed assets. On the other hand, depreciation is deductible from income before taxes. When you lease the item the payments are reflected as an operating expense from income before taxes. But in the case of a note payable, only the depreciation and interest expense are deductible. Principal payments on a loan are not included in an income statement. The bottom line is that a lease payment will more likely increase retained earnings and net worth. A loan will more likely decrease or have a negligible effect on net worth.

Regarding interest expenses, you commonly pay a higher interest rate on a lease agreement than on a loan. And, a lease agreement is generally longer than a loan. Therefore, the actual interest paid on a lease is greater than that on a loan for the same item.

Down payments for leases are most often lower than the amount required to secure a loan. Many bankers prefer 30% to 50% coverage of expenses by the loan applicant. It is uncommon for a bank to allow 100% collateral value coverage on a loan when purchasing equipment.

Maintenance and insurance are costs commonly incorporated into a lease agreement. When purchasing the equipment the banker expects you to secure maintenance and insurance expenses above and beyond the loan. Yes, manufacturers provide maintenance contracts, but loans will probably not cover that expense.

As an incentive to assume a lease, many leases offer updates of equipment either during or at the conclusion of a lease. The incentive is to keep you committed to a lease program. An additional incentive often offered is the buyout for title of ownership of a leased item at the end of the lease period. It may or may not include an additional payment at the end of the lease. That payment will likely represent salvage value plus a profit margin to the leasing company. You will then have total ownership of the equipment. It is best to make such a decision based on what you believe will be the extended life of the item at the end of the lease period. And given the constant upgrades, performance and prices of computers, they do not offer much incentive as a lease unless the leasing agency offers upgrade incentives.

To summarize, if you experience tight cash flows it would be better to consider a lease agreement. Low down payments, lower monthly payments, extended periods to pay out the lease, incorporation of maintenance and insurance costs into the monthly payment, the opportunity to upgrade, greater ease to secure financing and the opportunity to own the item at the end of the lease period are sufficient incentives for the business owner having to closely monitor costs.

© 2000, Carroll Stephen Windhaus