To be able to operate successfully, your business will need to acquire assets or capital equipment. These assets may include office furniture, computer equipment, company vehicles, engineering machines or service equipment. You could buy all of this equipment outright, or you might decide to rent or lease it instead. There are advantages and disadvantages in both options.

Assets finance

There are two main ways you can pay for the resources and equipment your business needs:

1. Buy it outright.
2. Hire purchase or lease.

Buying outright is a good option if you have the capital available, or if it is essential that you own the equipment. However, this large capital expenditure can affect your cashflow.

Paying for goods on hire purchase or leasing equipment:

• allows you to use an asset over a fixed period in return for regular payments;
• lets you choose the equipment you require, with the finance company buying it on behalf of your business;
• usually makes your business responsible for the maintenance of the asset.

If you lease the asset, a finance company buys the equipment on behalf of your business, and you pay for the asset in regular instalments over a fixed period of time. These smaller payments will leave you with more cash, but because you pay interest on the instalments, you will pay more for the asset in the long run.

Leasing means you may never own the asset outright, although some lease arrangements let you buy the asset at the end of the agreement. However, you can often update your equipment without the expense of buying newer models. The business can generally deduct the full cost of lease rentals from taxable income as a trading expense.

With hire purchase, the business owns the asset once all the payments have been made. You can also claim capital allowances against tax from the beginning of the hire purchase contract. Another advantage of hire purchase is that the interest rate you pay will be less than if you needed to get a bank loan or overdraft to buy the item outright.

Types of leasing

There are different kinds of lease arrangement. It makes sense to look at each one to see which is best suited to your business, your particular circumstances, and the asset that you are acquiring.

The three main types of leasing are:

1. Finance leasing

• A long-term lease over the expected life of the equipment, usually three years or more, after which you pay a nominal rent or can sell or scrap the equipment - the leasing company will not want it anymore. 
• The leasing company recovers the full cost of the equipment, plus charges, over the period of the lease.
• Although you don’t own the equipment, you are responsible for maintaining and insuring it.
• You must show the leased asset on your balance sheet as a capital item, or an item that has been bought by the company.
• Leases of over seven years, and in some cases over five years, are known as “long-funding leases” under which you can claim capital allowances as if you had bought the asset outright. 

2. Operating leasing

• A good idea if you don’t need the equipment for its whole working life.
• The leasing company will take the asset back at the end of the lease.
• The leasing company is responsible for maintenance and insurance.
• You don’t have to show the asset on your balance sheet.

3. Contract hire

• Often used for company vehicles.
• The leasing company takes some responsibility for management and maintenance, such as car repairs and servicing.
• You don’t have to show the asset on your balance sheet.

Buying equipment outright

Buying equipment outright may at first seem like the best option, but it’s always a good idea to think about whether this makes best use of your working capital. It may be more cost-effective to rent or lease certain items.

Some advantages of buying equipment outright:

• you own the asset and it can’t be repossessed - unless it has been used as security for a loan;
• you are treated as the owner for tax purposes and can claim your own capital allowances;
• you don’t tie your business into long-term agreements which may be difficult to terminate;
• you will almost certainly pay less overall than you would through a lease or hire purchase agreement, although you may need to borrow in order to make the purchase.

Some disadvantages of buying equipment outright:

• you have to pay the full cost of the asset up front out of cash which can affect your cashflow;
• if you use an overdraft or loan to fund the purchase it will add to the cost - overdrafts can be withdrawn at short notice, and in some cases early repayment of loans can be demanded;
• a small company is unlikely to get the same deals on price as a large leasing company, and may not have the same product knowledge and experience;
• you may end up buying equipment that you will not need in the future;
• you can’t easily spread the cost to coincide with money coming into the business;
• you are entirely responsible for the maintenance of the asset;
• you won’t be able to take advantage of the tax benefits of deducting the cost of rental from your taxable income;
• the value of the asset may depreciate over time and be worth less than you paid for it;
• you take on all the risk if the equipment breaks down or needs replacing.

Leasing or renting business equipment

Leasing or renting an asset means you can free up working capital for use in other areas of your business and you don’t need to take out large loans to pay for it.

You should think about leasing or renting equipment that has high maintenance costs, can quickly become outdated, or is only used occasionally.

Some advantages of leasing or renting equipment:

• you don’t have to pay the full cost of the asset up front, so you don’t use up your cash or have to borrow money;
• you pay for the asset over the fixed period of time that you use it;
• as interest rates on monthly rental costs are usually fixed, it is easier for your business to forecast cashflow;
• you can spread the cost over a longer period of time, and ease your cashflow by matching payments to your income;
• the business can usually deduct the full cost of lease rentals from taxable income;
• you won’t have to worry about an overdraft or other loan being withdrawn at short notice, forcing early repayment;
• if you use an operating lease or contract hire, you may not have to worry about maintenance;
• the leasing company carries the risks if the equipment breaks down;
• the leasing company can usually get better deals on price than a small company, and will have superior product knowledge;
• on long-funding leases (over seven years, and sometimes over five years) you can claim capital allowances on the cost of the asset.

Some disadvantages of leasing or renting equipment:

• you can’t claim capital allowances on the leased assets if the lease period is for less than five years (and in some cases less than seven years);
• you may have to put down a deposit or make some payments in advance;
• it can work out to be more expensive than if you buy the assets outright;
• your business can be locked into inflexible medium or long-term agreements, which may be difficult to terminate;
• leasing agreements can be more complex to manage than buying outright and may add to your administration;
• your company normally has to be VAT-registered to take out a leasing agreement;
• when you lease an asset, you don’t own it, although you may be allowed to buy it at the end of the agreement.

Tax implications

Capital allowances allow you to offset the cost of capital assets against the taxable profits of your business.

Capital allowances are used instead of normal accounting depreciation, which you cannot offset against tax. They are defined and set by HM Revenue & Customs (HMRC) and they are often used as a way of encouraging certain types of investment.

If your business is profitable you can claim your own capital allowances by using hire purchase or buying assets outright. With hire purchase agreements, your business is treated as the owner of the equipment and so you can claim capital allowances, offsetting the asset against your tax bill. You can also claim capital allowances if the lease is a long-funding lease - more than seven years, and in some cases more than five years.

If your business reaches a low profit or loss, it may not be worthwhile claiming the full capital allowances. With shorter leases - less than five years and sometimes less than seven - the leasing company will claim the capital allowances against its own profits and should pass on the savings to you in reduced rental charges. Businesses can usually deduct the full cost of lease rentals from taxable income as a trading expense.

Depreciation

The value of your assets, such as vehicles, machinery and equipment, will fall as they are used and eventually wear out. This is depreciation, and is used in your business accounts to write off the value of the assets over time.

Depreciation has the effect of spreading the cost of the asset so it is written off against the profits of several years rather than just the year of purchase. Depreciation is not allowable for tax. Instead you may be able to claim the cost of some assets against taxable income as capital allowances.To work out depreciation you need to know:

• the date you started using the asset;
• the asset’s estimated useful life;
• the asset’s initial cost;
• any possible value it may have at the end of its use - eg as scrap;
• any costs that are likely for disposing of it.

Choose a finance company

Companies providing hire purchase and leasing contracts include:

• subsidiaries of major UK banks;
• providers owned by manufacturers, such as car manufacturers;
• non-UK banks;
• independent finance houses;
• equipment suppliers;
• members of the Finance and Leasing Association (FLA).

When assessing the most appropriate leasing company to use, make sure:

• the provider is a reputable company, preferably a member of the FLA;
• your contract corresponds with any verbal or written quotations;
• the period for which you need the asset is covered by the length of the leasing agreement;
• you are aware of any financial penalties if you wish to end the agreement early;
• the equipment you are leasing is new;
• you have read the contract carefully before signing it, checking the amount of rental, the period of hire and notice periods;
• you understand all terms and conditions, and the costs you will have to pay.

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