Whether you operate a popular restaurant in town or haul food supplies across the country as an owner operator trucking company, you'll need equipment to stay in business. However, purchasing new equipment can be really expensive and can disrupt cash flow when not executed properly. Equipment financing is a tool that business owners use to acquire the capital that they need to purchase equipment without relying on large cash reserves. Consider how equipment finance arrangements work and their benefits to determine if one is right for your business.
Financing equipment starts with the right lender, and you'll find that there are plenty of options from which to choose. However, most seem to fall under the two main categories of traditional banks and specialized lenders.
When you finance equipment via a bank, the bank assesses your personal and business credit worthiness and makes you a loan offer. The offer includes interest and principal payments that are paid monthly. Depending on the terms of your loan, banks use both financed equipment and your other business assets as security for the loan. If you've made a personal guarantee to repay the loan, your personal assets are also considered collateral for the loan. Failing to repay the loan on time means that your assets are subject to forfeiture.
Getting 100% financing for your equipment via a bank loan is uncommon. Usually, banks want you to pay a small percentage of the equipment's cost using your cash reserves. This can be up to 20% of the total cost of the equipment.
You'll find that financing equipment through a specialized lender is easier and more convenient than getting a bank loan. These lenders often have lower credit score requirements than banks, and they process loan applications more quickly via online platforms. However, you'll pay for this convenience. Specialized online lenders offer less favorable loan rates and terms than traditional banks.
Many of these lenders only require the financed equipment to be used as collateral and not other business or personal assets. You'll need to shop around to find the loan product that's right for you.
If you're at all familiar with getting business loans from banks, you know that just getting through the application process is a harrowing experience. Traditional banks profit by lending money at interest rates that the market can bear. Their loans take risk into consideration, and they write loan terms that protect their financial interests against nearly all types of defaults. Take a look around at the small number of banks that have gone bankrupt in modern times, and you'll realize that these lending institutions know a thing or two about balancing money-making activities and risk management.
As a result, a bank will often ask you to fill out a preliminary application. This document helps to screen out businesses that don't meet the bank's absolute minimum loan requirements. Banks may ask about your company's annual revenue and how long you've been in business. If your company has less than $250,000 of annual revenue and is a year-old startup, it's likely that the loan processor will let you know that your company doesn't qualify for an equipment loan.
If you meet the bank's minimum requirements, you'll be asked to prove it. The bank will ask you to provide at least two years' worth of financial statements and tax documents. It's not uncommon for a bank to also ask for your personal bank statements and tax returns.
Specialized online lenders use a much more streamlined application process. They want to know about your current debts, expenses, and income, but they don't belabor the point. After getting a copy of your financial documents, they perform analysis and provide a loan offer within a few days versus a few weeks, which is the approximate length of time that banks take to process business loans. You're more likely to get approved for an equipment loan with some specialized online lenders than with traditional banks. They often have lower threshold requirements for loans but hedge their risks with higher interest payments. While both traditional banks and specialized lenders run credit reports during the loan application process, specialized lenders consider loan applications for businesses that have lower credit scores. Traditional banks will not.
Owning equipment free and clear gives business operators a number of options. If upgraded equipment is needed at the end of a loan period, they can sell the current stock and invest in new items. They can also lease the equipment out to subcontractors or use the equipment as collateral for their next business loan.
However, equipment loans aren't suitable for every business at every phase of its life cycle. Need an alternative to an equipment loan? Invoice factoring is an appropriate option when you need money for replacement equipment in a hurry. Your company can get the money that it needs for capital improvements by trading in accounts receivables for cash. The process is straightforward, and there are no restrictions on how you can use the money after receiving it. It's your money and not a loan.
Equipment financing is a proven way to quickly ramp up your inventory of vehicles, office machinery, or commercial kitchen appliances. However, it's not a great option for every business. Start-ups may not have the time in service to qualify for an equipment finance loan. Also, if you believe that there is a fair chance that you won't be able to make the monthly payments on an equipment loan, it's best to consider other alternatives.