Part of developing a successful business plan - as well as a project budget - is understanding whether or not your construction vehicles or equipment should be rented, leased or owned. In most cases, established companies use a combination of the three - considering cash flow as well as how often each piece of machinery is used.
Smaller companies may find it makes more sense to lease or rent the majority of their equipment, while larger and more established firms can take advantage of greater capital and credit lines in addition to potential tax deductions.
Before you make any financial decisions regarding equipment purchases, rentals or leases, schedule time to speak with your bookkeeper or a CPA who can determine which ones make the most sense - both financially and tax-wise. He can also help you create a tiered plan, where you pare down (or scale up) what you rent/lease as your profits increase or as your projects change in their size and scope.
It only makes sense to purchase vehicles, equipment and tools that are essential to your business. These are the things your employees use on a daily basis and without which, day-to-day operations would shut down completely. Purchasing is also the option that has the greatest, long-term tax benefits.
Before you decide to purchase:
- Save for a down payment. The more money you can put down on a piece of equipment, the less your payments are and the lower the interest rates will be, both of which are important in terms of long-term expenditures. Even the difference of a percentage or two can add up to thousands of dollars over the course of a loan.
- Shop around. Take time to perform due diligence and shop around. Look for similar equipment for a lower price that is for sale outside of your immediate area. It might be worth it to travel a little further to save money or invest in a better piece of equipment. Also, see what deals different credit unions and lenders are offering to get the best percentage rate available.
- Explore the tax benefits. You may find that the purchase you think will help you out come tax time doesn't at all. If you already deduct quite a bit, another purchase may simply push you over a particular threshold, making you eligible to pay an Alternative Minimum Tax (AMT), which is a 20% tax on tax deductions to ensure Uncle Sam get his due. When you purchase equipment also plays a role in whether you will benefit or not. Again, consulting with a tax professional is your best means of determining what makes the most fiscal sense for your construction firm.
Don't forget to check out the used construction equipment market, where high-quality pieces that were well-maintained can be purchased for a song. If capital is a concern for you, however, you may find that it makes sense to own the company vehicles and only a key piece of equipment or two, allowing the more "extracurricular" items to be rented and/or leased as needed.
Maybe there's a piece of equipment you use on a regular basis, but that requires a hefty down payment or more than you feel comfortable paying outright with with cash. In this case, leasing may be a better alternative. Leasing is also a good idea if there is a specialty item you'll need for a project with a set timeline - a year or longer- like a multi-story, mixed-use development that will require more extensive lifts.
Leasing benefits you because it:
- Frees up more expendable cash for the company.
- Keeps you out of debt.
- Prevents you from being snagged with taxes such as the AMT or Mid-Quarter Convention.
- May come along with maintenance perks, depending on the leasing company and/or lease terms.
- Can be an accounting benefit or tax benefit, depending on your company's situation and how you set it up.
Things to keep in mind before signing the lease's dotted line:
Leases are binding. Leases are binding and you are typically penalized for terminating a lease early. Minimum lease terms are rarely less than a year so only lease the equipment if you are sure you will need it for at least as long as the lease term. Otherwise renting is the more fiscally smart choice.
Lease terms can vary. In order to up the competition factor, some companies make their lease terms more attractive than others and will throw in perks like free maintenance, tire changes or reduced early termination penalties - it's worth it to compare at least a few different offers before settling.
Operational lease or finance-lease? There are typically two basic leases: operational leases and finance-leases. With an operational lease, you make higher payments to offset the depreciation eaten up while you have the equipment and because the lessor pays the taxes and fees on the item(s). With finance-leases, you select the equipment from the manufacturer or dealer, but it is actually financed through a third-party and you are considered the "owner" during the lease term. Finance-lease payments are typically lower than operational lease payments, although you are responsible for maintenance, taxes and licensing fees.
Leasing makes the most sense when you want to free up capital, especially important for a growing business. At the end of the lease, you typically have the option to buy. Make sure to check the sales prices of similarly used equipment, however, as the residual value as per the lessor can be markedly higher than those on the free market.
Renting equipment is the most economical, flexible and risk-free way to try some equipment on for size, and determine whether or not its something you should own or lease in the future. Rentals are typically used for construction equipment that is only used for a day or two every year, or that may only feature for a week or so in any given project. It makes no sense to buy equipment you'll hardly use, and leases will burn up capital as well if the equipment doesn't feature prominently in the project calendar.
Usually, you rent equipment by the week or month, but you can rent a piece by the hour or day if needed. You have complete flexibility and the rental agreement ends the minute you return the equipment - or have it picked up. There is no "early return" penalty the way there is for leased equipment.
When it comes to renting, the key is to find a reputable company who is known for their customer service and well-maintained machinery. The last thing you need when renting equipment for the short-term is to put things on hold due to malfunctions or breakdowns. Unlike leasing, which can affect your line of credit, renting both frees up cash and keeps your credit lines up.
Most construction companies find a balance between owning, leasing and renting - in order to free up capital where they can while finding a way to work in a few tax benefits. Sitting down and evaluating the accounting and tax benefits for each options will help you determine which category your construction equipment should fall into.