Prudent businesses often choose to lease rather than buy equipment, vehicles and facilities. Leasing can be advantageous but the type of agreement you sign is important.
When presented with lease options, you’ll find the ones with the longest terms are generally the cheapest. But you may want to opt for a short-term version instead. Why? If you should experience a business downturn, a long-term lease can be the shortest route to the poorhouse.
The risk of signing an extended deal is obvious. You’re stuck with years and years of stiff lease payments — and maybe even penalties if you can’t pay. To make matters worse, the equipment and facilities might be obsolete or sitting idle at your company while you’re still writing checks.
To limit your exposure, consider negotiating short-term leases. Make no mistake: You’ll probably pay a higher lease rate. But even if you end up paying more, it can be a prudent way to limit your exposure in bad times.
You’d be surprised how many businesses are unnecessarily encumbered in long-range leasing arrangements that end up costing more money in the end.
Let’s say you have an opportunity to lease a photocopy machine for five years at $100 a month, or a total of $6,000. Instead, you negotiate a month-to-month lease for the same machine at $150 a month. Ultimately, it could be a much better deal.
The reason: If you take the long-term lease and the bottom falls out of your business, you’ll be expected to continue making payments even though there’s nothing to photocopy and no revenue coming in.
But if you hedge your bets by taking the short-term option, you can walk away from the arrangement. If the business recovers and the danger to your company passes, you can always decide later to terminate the “expensive” short-term lease and shop for a “cheaper” long-term arrangement.
Here’s another consideration: If you lease equipment 365 days a year, but only use it 180 days, you’re better off renting with a month-to-month lease at double the daily rate of a long-term lease. Your cost is exactly the same as leasing for 365 days, but there’s no long-term obligation. If you want to get out, you’re off the hook.
The tax implications of leasing can be complex so you may want to discuss them with your advisor before signing any contracts.