For many small businesses, deciding whether to lease or buy an asset (like plant & machinery or a vehicle) is a big decision. There are advantages and disadvantages to both options.
Buying an asset outright may be a good idea if the business has sufficient cash available, but on the other hand if that cash could be put to other uses, or if it may be needed as a contingency, it may not be the best option. Compared to leasing, buying outright may be more cost effective in the long run once the costs of leasing are factored in.
Acquiring an asset under hire purchase or leasing arrangements does not require a big initial outlay, so it's a useful option for a business that cannot afford to buy outright or one that wishes to preserve cash for other reasons, but when the finance costs are factored in it is likely that the asset may cost more in the long run than with a straightforward purchase.
There is an important distinction between hire purchase arrangements and other types of lease. Under a hire purchase arrangement, the business usually owns the asset once all payments have been made. With a lease, the business never actually owns the asset. The distinction has significant VAT and Corporation Tax/ Income Tax consequences.
There are two main types of lease:
- finance leases - although ownership remains with the leasing company, the asset will usually appear on the business's balance sheet and the business will be responsible for maintaining and insuring it. Except in the case of "long funding leases", for tax purposes the business will be unable to claim capital allowances, but may claim deductions over the term of the lease based on the depreciation and interest costs; and
- operating leases - with operating leases, the leasing company will usually remain responsible for maintaining and insuring the leased asset; and from a tax perspective the lease payments will normally be deductible against income; the asset will not appear on the business's balance sheet.
Let's summarise the main advantages and disadvantages of leasing:
| ADVANTAGES |
| No need to pay the full cost up front |
| Access to a higher standard of asset? |
| Fixed repayments help budgeting |
| Potentially matching the lease payments with the income generated by the asset? |
| Compared to a bank o/d or loan used for the same purpose, there is little chance of the finance being 'withdrawn' unexpectedly |
| No/ fewer asset maintenance costs with an operating lease, compared to other types of lease or an outright purchase |
| Potentially, better deals on price |
| Capital allowances available on hire purchased assets, also may be available on "long funding" leases (those over seven or in some cases five year's duration) |
| Upgrades of assets that are leased may be more affordable, requiring only an adjustment to the regular lease payments |
| Leasing company bears the risks if the asset breaks down |
| DISADVANTAGES |
| No capital allowances for leased assets if the lease period is less than five years |
| Can often be more expensive than if buying assets outright |
| Getting locked into long term agreements may not be desirable |
| With finance and operating leases, the business never owns the asset, unless there is an 'option to buy' |
| Administratively, leasing is more complex to deal with than a straightforward purchase |
If you have any questions or want to know more, contact us today.
