“Here Are Some Basic Guidelines For When A Personal Guarantee May Be Required”

If you considering financing an equipment acquisition via an equipment leasing facility, then you may be wondering if and when you would need to provide a personal guarantee to get a deal funded.

Many times, business owners and managers will work hard to avoid providing guarantees without really understanding when they may be required.

While there can always be variations from one situation to another, here are some basic guidelines to follow.

First of all, virtually all equipment leases are going to require a guarantee of some sort above and beyond the asset being provided as security.

If the business is incorporated, it will automatically be required  to provide a guarantee to the leasing company in most cases.

If the business is a sole proprietorship or partnership of some sort, the specific owner or owners will need to provide the guarantee.

For situations where a partnership is between two corporations, then only corporate guarantees are automatically required.

The point at which a personal guarantee is required or not has a lot to do with the financial standing of the borrowing or lessee entity, its commercial credit status, and the accumulated net worth that resides in the business.

A guarantee is all about providing additional comfort to a leasing company above and beyond the security in the asset, so the value of a guarantee is dictated by the net value in assets held by the person or entity providing the guarantee, covenant, or statement of assurance.

So if the business entity, in the form of a corporation, or having corporate entities as partners, can provide a sufficient financial guarantee or covenant to the financing source, then a personal guarantee will not likely be required.

In all other situations, it is very likely that a personal guarantee will be a requirement of the lessor.

So for example, even if you have a business that is very profitable, if you do not retain the profits in the business, the value of the business guarantee is going to be limited and therefore more likely that a personal guarantee is going to be required.

This is very common in service companies that do not have a lot of hard assets or have a need to retain profits in the company for business use.

So in most cases, early stage companies almost always have to provide a covenant or guarantee along with the asset security when applying to a leasing program.

Then, over time, as the business builds up its retained earnings and overall equity position, it will potentially be able to eliminate the need to provide the guarantees or at least enter into limited guarantees as the business financials get stronger.

“What Is A Lease Balloon Payment?”

A lease balloon payment is the amount of principal still remaining at the end of a lease term.

For example, all operating leases require that at least 10% of the initial purchase price of the asset be outstanding at the end of the lease term in order for the lease to qualify as an operating lease.

This 10% amount outstanding is effectively a balloon payment.

From a debt servicing point of view, your monthly lease payment is calculated based on the amount of principal retired and the amount of interest charge on the balance.

Because the entire balloon payment amount is outstanding during the full lease term, you are effectively paying interest on this full amount each and every month.

For the most part, the effective cost of capital or interest rate associated with a lease with a balloon payment is going to be less than a lease without one.

The balloon payment amount can also be higher than 10%.  The reason for going this is to lower the cash flow requirements during the leasing term.

The amount of a balloon payment that is going to be possible in any given situation is going to vary according to the lease financing criteria of the leasing company, the asset being financed, and the credit and financial profile of the borrower or lessee.

Balloon payments that you have an option to repay at the end of a lease term are classified as an operating lease and typically are not going to be higher than 10% unless the asset has a very high probability of holding its value over time.

For larger balloon payments where the lessee has agreed to purchase the asset and make the payment at the end of the leasing term, the lease is a capital lease by definition.

The strategy for taking advantage of a balloon payment can result in both cash flow and taxation advantages to the lessee.  In order to make sure that a certain lease structure can yield these specific benefits, you should always first consider reviewing the specifics of the lease agreement with your accountant and/or tax adviser.

Larger balloon payments are going to me more likely with shorter leasing terms as the risk to the lender or leasing company from non payment is going to be less due the shorter amount of asset use and depreciation.  This is not going to be true in all cases, but will apply most of the time.

One of the keys to effectively managing this type of financing strategy is to allow for the repayment of the balloon payment in your cash flow so that when it comes time to make payment that the business does not get drained of all available cash, or incur additional debt that will be difficult to manage from that point forward.

If you would like to know more about equipment leasing balloon payments, please give us a call and we’ll make sure you get all your questions answered right away.

“There Are Several Equipment Lease Financing Options Available To Small And Medium Sized Businesses”

Equipment leasing has become a very common and important financing vehicle for small and medium sized businesses.

This type of financing is very flexible and can be used for just about any type of asset ranging from office furniture and computers to heavy duty construction equipment and everything in between.

From the lease structure point of view, there are basically two types of leases namely a capital lease and an operating lease.

A capital lease functions much like a loan in terms of the debt servicing requirements and how the financing facility is reported for accounting and tax purposes.

Basically a capital lease requires the borrower or lessee to purchase the asset for a nominal price at the end of the lease term.

With the operating lease, the lessee does not have to purchase the asset at the end of the lease term, but may elect to do so under different purchase options.

An operating lease can be structured in a number of different ways to provide cash flow and taxation advantages to the lessee.

Outside of lease structure, the next aspect of lease financing options would relate to the financing companies that provide financing.

Both bank and non bank lenders can provide equipment lease financing programs.

For financing amounts under $200,000, there are a wide variety of what we refer to as small ticket leasing companies that provide lease financing to businesses either on a regional or national basis.

Within the small ticket group are different credit and asset type focuses among leasing companies.

There tends to be more “A” credit options available, but there can be “B” and “C” credit options available to you as well depending on the asset, your location, and financial profile.

For transactions greater than $200,000, there is another class of financing companies that focus in on larger transaction size.  Some will not consider deals under $500,000.

The cost of different leasing options, like any type of financing, is a function of risk.

So the actual financing cost will be directly impacted by the industry you are in, the type of asset being leased, the location of you business, and your financial and credit profile.

As a result, leasing costs can vary considerably from one deal to the next.  In order to get the best potential deal, there can be a considerable amount of option comparison required if you’re not familiar with which financing companies would be most relevant to any one particular deal or financing scenario.

One of the best ways to quickly assess the most relevant options available to you is to work directly with an equipment leasing specialist who can help you zero in on the specific financing companies that would be most interested in providing for your requirements at the rates and terms you’re looking for.

“When Is An Appraisal Required In The Lease Financing Process?”

An equipment appraisal is an assessment of value by someone for a particular piece of equipment.

Appraisals are not typically required when you are purchasing a piece of new equipment expect in situations where there is some type of bargain pricing or sale element that places the asset below its market value.

In those cases, an equipment leasing company may want to validate the condition of the asset to make sure that its truly new in terms of its condition.

Otherwise, almost all equipment appraisals that are required for equipment financing are related to the acquisition of used equipment.

For smaller financing amounts, and/or for assets that a leasing company has a good working knowledge of with respect to its value in the resale market, an internal desk top appraisal may be all that’s required.

As the amount of financing being requested increases for a used equipment acquisition, the more likely that a third party equipment appraisal will be required.

A third party appraiser can be an accredited as well as unaccredited appraiser.

An accredited appraiser has received a qualification from a recognized agency as to their competency in performing an objective third party assessment.

An unaccredited appraiser is typically a dealer that actively buys and sells similar assets in the open market.

The specific type of appraisal and appraiser will be determined by the leasing company after reviewing the initial application of financing.

There are times when providing your own comparative sales from the internet or off line can also be helpful to support the price you are paying, especially if the sales are coming from a well known auction service.

This can help support a desk top appraisal that is basically trying to do the same thing and find recently completed sales from relevant sources.

There are also different types of appraisals that can be requested by a leasing company.

When the request for financing is for a sale and lease back to provide more capital into a business, the appraisal required is typically a forced liquidation appraisal where the appraiser is determining what the value of the asset or assets would be if they needed to be sold off in a very short period of time through an auction service or other sales methods.

This provides the most conservative valuation from which to lend on.

For a used equipment purchase, the appraiser can be asked to do a fair market value appraisal, an installed valuation if an installation is required, or a relocation and installation appraisal if the asset needs to be uninstalled from one location and then moved to another location and reinstalled.

Equipment appraisals to support financing are most typical with sale and lease back transactions where multiple assets are involved and for large single used asset transactions.

The cost of the required appraisal will be born by the applicant or lessee and will need to be paid for prior to lease funding in most cases.

For more information on equipment appraisals and how they may or may not relate to a lease financing requirement you have, please give us a call and we’ll make sure you get all your questions answered right away.

“What Is A Lease Financing Rate?”

An equipment lease financing rate is the effective rate of interest or capital cost associated with a given leasing contract or agreement.

Because leasing is effectively a type of financing, the cost of financing or cost of capital is going to play into any leasing decision you might make.

From a financing cost perspective, there can be a number of different elements that go into accurate calculation of a leasing rate.

First of all, a lease payment is typically due at the beginning of the payment interval where a loan will usually have the debt servicing payment at the end of the payment interval.

So with a lease, the first payment is principal only as no time has gone by that would result in a cost of financing.

Second, leasing companies will typically want one or more payments in advance.  If you are paying the last payment in advance for example, then there is a time value of money associated with that payment that ends up being a cost to you over time.

Third, if you are looking at a lease where there will be a significant residual value at the end of the lease term, the residual value will result in interest carrying costs during the lease term.  This means that compared to a loan where the full value of the loan will be repaid during the term, the lease will have smaller principal amounts and higher interest amounts on each payment.

This does not necessarily mean that the cost of financing is higher with an operating lease as a percentage, but the total cost of financing will be higher.

Because of the different aspects of an equipment leasing payment calculation, it can be difficult at times to accurately determine the true cost of capital.

But without accurate numbers, it will make a comparison between lease and loan options difficult to make.

Just like standard amortization calculators, there are also lease calculators available on the internet for your use.  The challenge with them, however, is that they do not tend to allow for all the different ways a lease can be structured.

In many cases, the only way to accurately calculate the leasing rate is with a financial calculator with proper inputting of the correct variables.

If you’d like to make sure you properly understand the leasing rate relative to any particular equipment leasing option, I suggest that you give us a call and we’ll go through the math and calculation together.