Machinery and Equipment Loan - Everything You Need To Know

Equipment finance is a type of loan, especially for businesses. Investing in machinery and equipment can be a challenge for new and start-up businesses. Costly to upgrade, replace, and outright purchase, it simply isn't affordable for many. However, getting your hands on the most innovative equipment your industry has to offer is crucial for growing and succeeding.

This is where equipment finance steps in. Did you know, in 2018, equipment finance and leasing accounted for 40% of Australia's capital expenditure? If you're looking to fund new equipment or replace and upgrade current equipment, this guide will take you through equipment finance solutions to help your business succeed.

• What Is an Equipment Loan?
• Who can benefit from an equipment loan 
• What can I finance with an equipment loan 
• Types of Equipment Loans
• Equipment Loan with a Balloon Payment
• Tax benefits 
• New Equipment Vs. Used Equipment
• Best Tips for Faster and Easier Appro2val
• Why Use a Finance Broker?
• FAQ

What Is an Equipment Loan?

Equipment finance is a specialist type of business finance used to enable commercial organisations to purchase equipment, tools, or fixtures that are used to meet the company's needs. The loan is usually secured on the assets purchased.

Generally speaking, you should be able to get asset finance for new or second-hand equipment. Although, this depends on the lender and the type of equipment you're interested in buying.

Equipment loan terms are typically tied to the expected lifetime of the equipment. Normally this is between one and five years, although the finance agreement can be made longer for some assets, e.g. construction equipment.

There are many kinds of loans you can arrange finance for, each with benefits and downsides. For example, some don't require a lump sum deposit that might better suit your cash flow. Other kinds of equipment finance see you make equal monthly repayments while some require a larger final payment in what is called a 'balloon payment'.

We'll get into the details of the different types of equipment finance and who they benefit from.

Who Can Benefit From an Equipment Loan?

Business finance is used by most organisations, no matter how big or small. New, start-up companies might need equipment finance if they don't have the cash flow to afford expensive but essential assets to get up and running.

Established businesses might also need asset finance to spread the cost of the purchase out over time to avoid forking over a lump sum that depletes their working capital. This frees up cash that can be spent improving and growing other areas of the company, such as hiring staff. There are also tax benefits involved.

Other reasons companies use equipment finance are:

• To make regular, predictable monthly repayments that the organisation can budget for - leases and hire purchase contracts typically use fixed interest rates. Chattel mortgages might be variable or fixed.
• Using an operating lease to keep the purchase off the balance sheet and financial records to improve performance ratios.
• Using an operating lease to benefit from using the equipment while maintaining the flexibility to upgrade.

Ensure that you engage the assistance of an equipment finance specialist to discuss your options comprehensively.

What Can I Finance With an Equipment Loan?

Essentially, businesses can use finance leases to fund anything used for working purposes - any tangible asset except real estate. This might include:

• IT systems
• Tech equipment
• Machinery
• Company cars
• Other vehicles
• Tools
• Forklift
• Specialised equipment
• Commercial kitchen equipment

The list goes on and on. Different loans might cover different kinds of assets. For example, unsecured business loans can also be used to pay for day to day costs, inventory, renovation and equipment. If you need to fund any kind of asset for your business, it is likely that equipment finance will cover your expenses.

Speak to an equipment finance specialist about lending criteria and the things you should know to fulfil your business needs.

Types of Equipment Loans

The type of equipment finance your broker recommends to you should be based on your company's individual circumstances. Each comes with its own pros and cons; some are more suited for a small business while others meet the business needs of larger companies. The types of equipment finance include:

• Chattel mortgage
• Novated lease
• Commercial hire purchase
• Finance lease
• Operating lease
• Unsecured business loan

Ensure that you fully discuss your finance options to get the best deal to fund your assets.

Chattel Mortgage

A chattel mortgage is a loan that uses the asset to secure the finance. The company takes ownership of the asset at the time of purchase, however, secured. Over the loan term, the company makes regular repayments to the lender until the full cost of principal and interest are repaid.

After the loan term is up and the repayments are made in full, complete, unsecured ownership of the asset transfers directly to the business. The loan term is typically between one and five years (although can be longer). Plus, the interest rates are usually fixed, meaning that businesses can predict and budget for each payment.

There is also the option to make a balloon payment at the end of the loan's lifetime. This lowers each monthly repayment while the final repayment is more expensive.

Chattel mortgages are suitable for high-value equipment that will not become obsolete or depreciate too dramatically over time. The main benefit is that the asset belongs to the company from purchase, however, they cannot dispose of the asset while it is being used as security. This means that it is harder to upgrade or replace it during the loan term.

Novated Lease

A novated lease is designed specifically for vehicles. As part of a salary package arrangement, the lender purchases and owns the asset and leases it to the employee for an agreed period. The employer makes the monthly repayments and covers the running costs on the employee's behalf. However, their pre-taxed salary is reduced to compensate.

The repayment structures are typically flexible, depending on the employee's cash flow and individual circumstances. Plus, the employee can make an offer to purchase the vehicle after the loan term is up.

The benefit is that the finance covers 100% of the purchase price, and no upfront deposit is required. Plus, it can significantly reduce the employee's taxable income. As the payments are made from the pre-taxed income, the employee can save their cash.

The downside, however, is that you don't own the vehicle for the loan term.

Commercial Hire Purchase

Commercial hire purchases are loan types where the lender purchases the equipment for the business. They then hire the asset to the company with a set contract. The business pays regular fees for the entire term of the contract. In other words, the business pays for the equipment in installments, yet has use of it from the beginning.

The company is typically expected to pay an upfront deposit for the asset.

Like with the chattel mortgage, there is the option to have a balloon payment at the end. Plus, the business can negotiate the term of the loan and monthly repayments to suit their cash flow.

The advantage is that the business has immediate access and use of the asset and can take full ownership of the equipment at the end of the contract period. The disadvantage is that the business is responsible for the asset (including risks and benefits) but the lender remains the legal owner.

Finance Lease

Commonly used for high-value assets with a medium to long life. A finance lease is similar to a hire purchase; the funding provider purchases the asset and the business has full access and use of it. However, the business is also responsible for all the asset's risks and rewards, including maintenance, running costs and repairing any damage.

The business makes regular lease payments to the funding provider over an agreed contract length. The loan term is usually the same as the expected life of the asset. At the end of the loan's lifetime, the business can choose to buy the asset for a set fee, give it back or continue to lease it from the lender. They can also negotiate flexible and tailored repayments to suit their situation.

Businesses do not need to pay a deposit for this type of loan. And, typically, the monthly rental repayments are tax-deductible.

Operating Lease

Operating leases tend to be suitable for short to medium-term financing. A highly flexible option; the operating lease is perfect if you want to upgrade your equipment regularly or if a better alternative soon becomes available. For example, for IT systems or tech equipment, which become obsolete fast, the operating lease lets companies upgrade to newer, up to date systems as they are released.

The lender buys the asset and rents it back to the business in exchange for regular payments. The company does not own the asset and nor do they have the option to buy it when the lease is up. Instead, the asset is reclaimed by the lender who then sells it or leases it to another party. The lender is responsible for the asset's maintenance and servicing.

The contract term usually only lasts part of the asset's life, meaning that once the contract ends, the business can upgrade or replace it. The other benefit is that some operating leases enable the company to upgrade during the contract with adjustments to the agreement and repayments. A few leases make the upgrade automatic.

Unsecured Business Loan

Not specifically for commercial equipment, the unsecured business loan is a type of finance that is not secured against any asset. Therefore, they often come with marked-up interest rates. On the other hand, however, they are commonly simple, hassle-free, and do not require large amounts of admin and paperwork.

Like most loans, the lender provides the agreed sum and the business makes regular repayments of the principal and interest.

They can be used for virtually any purpose within the business, making them a more flexible option for some companies who need quick access to capital. Plus, they are free to purchase and dispose of any asset at any time, regardless of the contract term.

Unsecured loans are suitable for companies that need an asset that will increase their output and profits. The increased income should outweigh the cost of the higher interest rates.

Equipment Loan with a Balloon Payment

As we've mentioned above, you can negotiate with your lender to have the option of a balloon payment at the end of your finance lease. Not every loan comes with a balloon payment, but they are a popular option among some businesses.

A balloon payment works by lowering the cost of the monthly repayments and making a lump sum payment at the end of the contract. Think of it as the opposite of a deposit, rather than paying an upfront cost before you've benefited from the new equipment, you make that larger payment at the end. This is often also better for companies that are vulnerable to cash flow gaps.

Plus, it frees up capital throughout the loan term as each monthly payment is lower. This enables the business to better manage its cash flow. However, the downside is that the business still has to pay the lump sum at the end of the loan's duration. This means that they end up paying more overall as they pay more interest over the loan's lifetime.

Also, they must budget well to be able to afford the final payment. The size of the lump sum depends on your contract with your lender. On average, they tend to be twice the monthly repayment or more. Talk to your loan broker about whether the balloon payment option is suitable for your business.

Tax Benefits

The tax benefits differ depending on the type of loan. For most kinds of financing options, the interest on the principal and the depreciation of the asset are both tax-deductible. With a finance lease, the rental payments can be similarly put down as a tax deduction.

Although, with an operating lease, the depreciation of the asset is not tax-deductible.

Remember to consult independent tax advice if you are unsure about what tax benefits you are eligible for.

New Equipment Vs. Used Equipment

One of the most significant factors to consider is whether your business should purchase new or used equipment. Whether you buy new or second-hand equipment affects your loan agreement. But, this decision goes beyond how it will impact your financing; you want your new assets to last you well and be of good quality.

If you're intending to keep your equipment for a long period of time then it is best to buy it new. For instance, if you're investing in heavy machinery, the newer it is, the longer it will last. For such a big investment, you don't want it to retire before you have gotten your full use out of it. Even if it does break down, you will likely be covered by a warranty.

Plus, new, shiny equipment gives your business a professional look that might impress clients more than if you're using shabby, obviously second-hand assets.

That said, the biggest downside of buying new equipment is the cost. It is typically a lot more expensive than second-hand assets and depreciates far more.

There are some advantages to purchasing used assets, however. There are often excellent deals out there where you can buy an almost-new product for a fraction of the price. And even though it has been used before, this doesn't mean that it is of poor quality or unreliable. Besides, many sellers offer guarantees and support.

Most financing options will support new or second-hand assets.

Best Tips for Faster and Easier Approval

Working with a finance broker will make your application process smooth and simple. The broker handles the application from start to finish and offers expert advice. Here are some tips for faster and easier approval.

Firstly, check whether you meet the lending criteria. Ask yourself the following questions:

• Do you have an ABN and GST registration?
• Is your credit history in a strong position?
• Do you have the minimum level of turnover?
• Do you have under the maximum level of other debt?

Secondly, you should gather all your supporting documents. These include:

• Proof of business registration
• Financial records
• Details of the asset you want to procure

Most lenders have easy and accessible online application processes and will offer pre-approval, or conditional approval, straight away. Although, some lenders ask you to contact them for a quote and then progress your application by phone. Specialist lenders' processes are typically faster and more efficient than approaching a high street bank.

Why Use a Finance Broker?

Finance brokers are experts at finding you the perfect business loan to purchase your much-needed assets. With years of experience and strong industry connections, brokers are well placed to find the perfect loan to suit your needs. Here are five reasons you should use a finance broker:

We understand that you have many other pressing matters to focus on. Whether it's the day to day running of your established business or growing your new company, you might be able to spare the time or resources to search for the right financing option. Your finance broker will handle the entire application on your behalf.

If you undertake the task of applying for finance yourself, you may miss out on many options as you don't have the resources to look into every single lender. Your finance broker will do the shopping around for you and offer you a range of tailored choices that suit your situation.

3. Connections

Plus, as the finance broker has better connections, they will know which lenders may be more amenable to your circumstances. For example, if you have a poor credit history, the broker will only approach lenders who can work around this.

4. More competitive

Often, lenders operating and finance leases offer better rates to brokers than if you were to approach them directly. This is because the lender doesn't have to pay for marketing costs, the broker does most of the work and they receive plenty of business through them. You might find that standard fees and charges are reduced or waived or lower interest rates when going through a broker.

Finance brokers know the industry like the back of their hands. They will ensure that whoever you finance with is reliable and has an Australian credit license.

It might be an especially good idea for your company if you are a new organization. With few supporting documents and little evidence of a good turnover, the broker is in a better position to present you in the best possible light to amenable lenders.

FAQ

What Are The Qualification Criteria?

The criteria depend largely on the total cost of the amount you want to borrow, the loan type and your own circumstances. Lending criteria apply to all businesses who want to borrow money. Usually, your business needs an Australian Business Number (ABN) and Goods and Services Tax (GST) registration to qualify. Plus, they look at your credit history, turnover, and other debts.

You might also need to pay a deposit for some types of loans.

What Documents Do I Need to Apply?

To apply for your equipment loan, your business will need to supply proof of business registration, financial records and the details of the asset you want to purchase (such as a supplier quote).

The lender usually wants to see your financial position; you might need to supply bank statements and cash flow forecasts. Having all your documents prepared will place you in a good position to get your loan application approved quickly.

What Are the Timeframes?

Most lenders will offer pre-approval, or conditional approval, immediately if you are eligible. Others that use more traditional processes might take around 24 hours or so to get back to you. Luckily, this means that it will never take too long to fund purchases, replacements or repairs of critical equipment.

What Are the Interest Rates?

Interest rates vary depending on several considerations. This includes your finance option, the age and type of the asset you're purchasing and the terms of the loan.

Commercial hire purchase loans and finance leasing interest rates can start from around 4.49%, an operating lease around 5.10%, while a chattel mortgage typically begins around 5.49% and an unsecured business loan tends to start from around 9.90%.