The benefits of leasing are many as evidenced by the fact that 80% of US companies lease some or all of their equipment. These benefits range from conservation of working capital to tremendous tax advantages.
While leasing does deliver a number of benefits there are also a few risks that you should be aware of. These risks can create frustration and could cost your company valuable time, energy, and a significant amount of money. With the right due diligence your company will be able to avoid these potential pitfalls and use leasing to help your business grow.
The following items are key elements to lease agreements and should be reviewed and scrutinized prior to signing your agreement. In order to ensure all risks are accounted for your agreement should be reviewed by your attorney.
1) Purchase, Return, & Renewal
These agreements are notoriously vague in regards to end-of-lease provisions on leases with a fair-market value residual. Specifically, the provisions dealing with purchase or renewal of the leased equipment at the end of term. The verbiage fails to provide steps for determining fair-market value. Without an agreed upon way of determining fair-market value the lessor may have the right to dictate what that value is. If an astronomical value is set by the lessor and you do not agree to pay that value then you could automatically enter into another agreement for a specified term. Terms on these extended agreements could range from 6-12 months.
Obviously the scenario described above could cost you a considerable amount of money if you signed the bottom line. To avoid these agreements make sure you read your lease agreement in it's entirety and ensure that your end-of-lease provisions are clearly defined.
2) End of Lease Notices
Every lease with a significant residual, fair-market value or 10% for example, will have contract language regarding end of lease notices. These notices typically state the window of time you have to notify the lessor of your intentions on the residual. These notices are necessary for the lessor to be able to take action in re-marketing the equipment, if necessary.
For example, a notice may state that you must contact the lessor in writing 180 to 120 days in advance of the end of term. If you fail to make your intentions known within this window then you could be automatically entered into another 12 month agreement. The tip here is to be aware of your end of lease notices and prepare for the action needed.
3) Extremely Low Rates
Most leasing companies draw from the same source of funds so lease rates are fairly competitive in the market. You should take extra caution if a leasing company is offering you a lease rate that is significantly lower than other companies you have gotten quotes from.
One way a leasing company can represent a lower rate and payment is by disguising a fair-market value residual lease as a $1 Buy-Out lease. You may request a $1 Buy-Out, the leasing company may tell you that they are setting you up with a $1 Buy-Out residual, but the actual contract language may be very different. If a lease is set up with a fair-market value residual the payments over the term are lower than a $1 Buy-Out given the same rate on both. The payments are lower because you are essentially back loading the lease with a fair-market value residual.
If a leasing company disguises a fair-market value residual lease as a $1 Buy-Out lease then they can present a much lower rate. Upfront you will think you are getting a great deal on the rate until you reach the end of term and are surprised with a significant residual value to purchase the equipment. Instead of paying the dollar you were expecting you could be paying thousands.
The tip here is "If it sounds too good to be true then it probably is". To avoid this potential pitfall make sure the residual value to purchase the equipment at end of term is clearly defined.
Conclusion
Leasing equipment has significant benefits over paying cash and financing. In order to take advantage of those benefits you will want to safeguard yourself by doing the necessary diligence in reviewing your lease agreement prior to signing the agreement. You need to ensure that what is discussed and negotiated with your leasing company is properly represented in the agreement. A final word of advice, in most cases it would be beneficial for you to have your attorney review any and all agreements and contracts that you enter into.
Jimmy Chandler is the President and CEO of Forward Capital Group, LLC. Mr. Chandler is the co-founder and Managing Director of Forward Capital Group and is responsible for overseeing and running all facets of the business. Mr. Chandler has been in the finance and lease finance industry for many years and frequently writes articles and shares experiences in regards to lease financing.
Headquartered in Temcula, CA, Southern California's wine country, Forward Capital Group is one of the fastest growing leasing companies in the nation focused on providing leasing and financing programs to companies nationwide.