Guide
Buy, lease or finance? Equipment decisions for contractors
The monthly payment is the wrong thing to compare. Here is what to compare instead.
Reviewed by Darren Lim, US CPALicence CPA.742536027 min read
You need another van, or a machine, or a piece of kit that costs more than a month of profit. The dealer quotes a monthly payment, the finance company quotes a monthly payment, and the lease quotes a monthly payment.
Comparing those three numbers is the wrong exercise, and it is the one nearly everybody does.
The three options, plainly
Buy outright. Cash leaves now. You own it. It is an asset on your balance sheet and it depreciates over its useful life.
Finance. You borrow, you own the equipment, and there is a loan against it. Payments split between interest — an expense — and principal, which reduces the debt. The asset still depreciates.
Lease. You pay to use it for a term. Depending on the structure, either you are effectively buying it over time or you genuinely just rent it, and the accounting differs accordingly.
What actually matters
What it does to cash, over the term. Not the monthly payment — the total. A lower payment over a longer term usually costs more overall. Add up every payment, plus any deposit, plus anything owed at the end.
What happens at the end. With finance, you own an asset. With a lease you may own nothing, or owe a buyout, or hand it back. Two deals with identical payments are completely different if one leaves you holding a van worth $18,000.
Whether the thing earns. A van that lets you run another crew generates revenue. A nicer version of a van you already have does not. This sounds obvious and is routinely ignored.
What it does to break-even. Every fixed monthly payment raises the revenue you must produce before you make a dollar. At a 32% gross margin, a $700 payment needs about $2,190 of extra revenue every month just to stand still. Not $700. See break-even for contractors.
The book-keeping consequences
This is where contractors quietly get into trouble, and it is worth knowing before rather than after.
Financed equipment is not an expense. The asset goes on the balance sheet and depreciates. The loan goes on as a liability. Only the interest portion of each payment is an expense.
Book the whole payment as an expense — extremely common — and you overstate costs every month, understate profit, and leave a loan balance that never moves. Your balance sheet stops describing anything real, which matters enormously the day you apply for credit.
Leases need classifying. Some leases are treated much like a purchase, with an asset and a liability recognised; others are treated as ongoing rent. Which applies depends on the terms, and it is a question for your CPA with the actual contract in front of them, not a rule of thumb.
Trade-ins are not discounts. Trading in an old van is a disposal of an asset. There is usually a gain or loss against its book value, and it needs recording as such.
What a lender sees
If you expect to want a line of credit or a bond in the next couple of years, this matters more than the payment.
Lenders look at your debt service coverage — whether the business generates enough to cover its debt payments comfortably. Every financed purchase reduces that headroom. Loading up on equipment finance now can be the reason a facility gets declined later, and by then the decision is not reversible.
There is more on how that assessment works in getting a line of credit.
A workable way to decide
- Total the full cost of each option across the term, including anything owed at the end
- Work out what each does to your monthly break-even
- Ask honestly whether the equipment produces revenue or just replaces something functional
- Check what it leaves on your balance sheet, and whether you need that headroom soon
- Then, and only then, look at the monthly payments
If the answer is still close, the tiebreaker is usually flexibility. Trades are cyclical, and an obligation you cannot exit in a slow year is worth avoiding even at a slightly higher cost.
Related
- Working out your break-even number
- Getting a line of credit as a contractor
- Seven QuickBooks mistakes contractors make
General information rather than tax advice. Depreciation elections and lease classification depend on your circumstances — decide them with your CPA.
How we do this
We build this into your books. Starting with a month that costs you nothing.
We keep financed equipment on the balance sheet properly — asset capitalised, loan amortising, only the interest hitting your P&L — and show what a new payment does to your monthly break-even before you sign it.
- Every transaction categorized, accounts reconciled, the month closed
- Reviewed and signed by Darren Lim, US CPA — licence CPA.74253602
- The Two-Day Guarantee: Your first month back in two days, or the next month is free.
Signing a five-year obligation against books that overstate your costs and hide what you owe is how contractors end up unable to borrow when they finally need to. One free month tells you what your balance sheet actually says. No card, and the work is yours either way.