Understanding the tax code can make a big difference for your small business. Especially for new small business owners, the difference between knowing the tax rules and not can be the difference between a successful or unsuccessful year. Equipment financing is one area where there are tax benefits that can make your equipment purchases less painful on the wallet.
Every business needs equipment to get the job done. From vehicles, to ovens, whatever industry the industry is that you’re in, one of your biggest expenses is probably equipment.
Equipment financing refers to purchasing equipment for a business over time rather than up front. Before we discuss the tax benefits of equipment financing, it’s important to distinguish two different equipment financing options: equipment loans and equipment leasing.
Equipment Financing: Equipment Loans
Equipment loans are business loans taken out specifically for equipment purchases. Like any loan, the lender and borrower set up terms for the loan. The interest rate and length of the terms will be negotiated to purchase the equipment, and the loan is paid back like any loan. One difference with equipment loans is that the equipment itself is used as collateral for the loan amount.
Equipment Financing: Equipment Leasing
Equipment leasing works just like a mortgage or a car lease. Your small business and a lender negotiate terms and set up monthly payment for the equipment for a set length of time. After making all of the payments for the term of the lease, most equipment leasing options include an option to buy the equipment outright.
Qualifying for Equipment Financing
Equipment financing is a great option for small business owners, especially for new small business owners. Equipment financing is an ideal option because it is often easier to qualify for than traditional financing options. Traditional alternatives like lines of credit and small business loans require strong credit and operating history.
To qualify for equipment financing, most lenders will need to see the invoice for the equipment and some recent credit and business information. However, because the equipment itself acts as collateral for the value of the loan, most lenders are pretty flexible with terms and restrictions.
Equipment Leasing is Cheaper than Paying Cash
Obtaining new or updated equipment with equipment leasing is cheaper for your small business than paying cash and buying equipment outright. When you pay cash, you are using money that might be needed for new opportunities or day to day expenses. That means if you buy a new piece of equipment with cash for $50,000, you now have less cash on hand for discounted inventory, payroll, marketing initiative, etc..
With equipment leasing, since you can write off all of the payments over the course of the lease terms, you save money. By deducting the lease payments as business expenses, you can pay less for the same equipment purchases.
Tax Benefits of Equipment Financing
A smart small business owner discovers and applies tax breaks to their advantage. We recommend forming a strong relationship with your tax professional. By working closely with a tax pro, you can take advantage of the tax benefits of equipment loans and equipment leasing.
With an equipment loan, you make payments throughout the terms of the loan, paying interest at the rate agreed on in the loan terms. For most equipment loan terms, the interest paid on the payments can be written off as a tax deductible. However, the total principle payment cannot be written off.
There are bigger tax benefits with equipment leasing. For most equipment leasing terms, you can write off the entire lease payment as a business expense. That means the entire amount paid for the equipment can be written off by deducting the monthly lease payments. There are huge tax benefits with equipment leasing.
According to Section 179 of the IRS Tax Code, the full amount of equipment purchases can be written off if an equipment lease is set up. Even if you do not pay the entire amount for the equipment in that year, you can deduct the entire amount on your taxes for the year. A big win!
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