A Complete Guide to Understanding Equipment Financing


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Equipment financing expenses can become the biggest expense for many businesses. Read on to learn how to keep your costs down and get approved quickly.

Buying business equipment can be a lot like buying a car. You don’t necessarily want to buy brand-new off the lot. You may have to haggle with a salesman for a week to get the best price. And, if you take care of it over the years, it will last a lot longer than whatever the average life is said to be.

Read on to learn why buying new may be your best option for financing and why finding a loan to purchase your new equipment shouldn’t be hard.

Overview: What is equipment financing?

Business equipment financing is the middle ground between full-blown real estate lending and short-term working capital loans. Equipment financing terms can range from a one-year lease to a 15-year loan.

If you finance with a lease, you can often arrange for the lease term to match up with the expected life of the equipment and have a purchase option at the end of the lease term. That way, if you take good care of the equipment, you can keep it.

Equipment and machine loan terms will also be lower than the average life of the equipment, so the bank can still sell the equipment if the loan defaults. Equipment vendors will provide the expected useful life for new equipment, and the appraisal will spell out the remaining life of used equipment.

Types of equipment that are commonly financed

Any type of equipment you can think of has been financed by someone somewhere. Here are the most common types:

  • Restaurant: Restaurants require a ton of equipment, including grills, fryers, freezers, refrigerators, warmers, dishwashers, microwaves, commercial sinks, etc.
  • Construction: Everything from $1,000 lawnmowers to cranes selling for seven figures.
  • Transportation: Your everyday pickup trucks are the most common, but vans, trailers, and owners’ personal vehicles are also commonly financed.
  • Farming: Many pieces of modern equipment you see on a farm were leased.
  • Printing: A lot of small businesses lease a copier or two, but real printing equipment gets expensive fast.

3 common eligibility requirements for equipment financing

Here’s what your lender will be looking at during underwriting.

1. Equipment valuation

If you’re buying new equipment, most banks will accept the sale price as the market valuation. They’ll take that price, apply a 20% discount rate, and lend 80%. You have to come up with the 20%.

If you’re buying used equipment, you’ll have to get an appraisal. There are two types of equipment appraisals:

  • Desktop appraisals: These are called desktop because the appraiser doesn’t leave the office. You supply pictures and any serial numbers, and the appraiser researches secondary markets online to find a value.
  • Full appraisal: The appraiser will do a full inspection of the equipment before providing a value.

The appraisers should give you the current fair market value and orderly liquidation value. The orderly liquidation value is the value you would get in a fire sale. Most banks will want to use orderly liquidation, but you may be able to negotiate your way to using the fair market price, which is typically far higher.

2. Direct debt service coverage

The lender will perform two types of debt service coverage. The first is to make sure there’s plenty of space in your business’s cash flow to take on the new monthly payment. The other will be based directly on the piece of equipment.

If you project that the new equipment will allow you to sell 1,200 more t-shirts per month at $35 each, the bank will want to make sure the monthly payment is significantly less than $42,000 (1,200 x 35 = $42,000).

This should be part of your own capital budgeting for the equipment even if you won’t be financing it. Estimate the monthly cost of the equipment based on its useful life, and only make the purchase if you can eke out a lot more profit from it than that amount.

3. Credit score

Many vendors and big banks doing equipment financing will use shortcuts. Instead of doing an intense underwriting of your whole financial picture, they’ll run you and your business through an algorithm to get a score based on your credit history.

This will happen a lot for loan or lease amounts of less than $250,000. Lenders don’t make a whole lot of money on these deals, especially with interest rates as low as they are, so they want to process the loan as quickly as possible.

If your credit score leaves something to be desired, take some time to work on it and start reviewing it every month. You’ll end up saving a ton in interest over time.

How to secure equipment financing

Equipment lending should be easier than getting a real estate loan. Here’s how to go about finding a business equipment loan or lease.

1. Talk to your vendor

You may have heard that many auto companies make more money financing cars than they do manufacturing and selling them. That may not be as true anymore, but many equipment companies are the same way.

They manufacture the equipment, run the customer through their credit department, finance the purchase with a low rate to entice purchase, and then, if you default, they have the experts to refurbish it.

It’s very possible the vendor will be your best bet to finance the equipment purchase. The sales department often has a lot of influence on rates and an incentive to get the deal done. Additionally, if you end up falling behind on payments or need to restructure, you may have some leverage if you’re a big customer.

Just make sure you read the fine print and at least reach out to your banker to compare fees.

2. Meet with your banker

Many big banks have departments that only do equipment financing. They work with vendors and are experts in the industry. But that isn’t necessary.

Even smaller community banks should be able to do conventional equipment loans and may even be able to do equipment leases.

If the rates and fees are similar to what you would get from the vendor, consider using your bank. The more business you do with the bank, the easier it will be to get the big real estate loans done when you need to.

Another thing to keep in mind: If you can’t quite qualify for vendor financing or a conventional loan, don’t be afraid to apply for an SBA loan. Banks have a lot more flexibility when the government guarantees the loan. You can even apply for a microloan through the SBA if your business is a startup without historical financials to lean on.

3. Consider leasing

Leasing has gotten a bad name in personal financial circles. Many say it is akin to throwing away money because you don’t own the product at the end of the lease term.

That argument doesn’t work for business equipment. For one thing, most equipment leases have an option to buy at the end. Additionally, the market for equipment financing generally makes it so the actual cost to you is about the same in the end. If you buy equipment and finance it, the interest and depreciation costs will likely be about the same as lease payments would have been for the same period.

If you can’t pull off purchasing equipment, but you can make a lease work, don’t hesitate.

Too equipped to quit

Equipment financing can get complicated, or it can seem overly simple. There are so many different equipment lenders and lessors, you never know what you’ll go through with underwriting. Be patient and stick to smart capital budgeting (don’t wing it), and you’ll end up ahead in the long run.


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