Getting ready to ramp up your business to make the most of the reopening economy? You may need to invest in updated equipment – vehicles, machinery or computer systems, for example – in order to maximise your benefit from the reawakening of commerce. But it’s now more important than ever before to protect your working capital and look at alternative forms of finance for your capital expenditure.
Two forms of finance you might consider are a rental contract and a chattel mortgage. Which one is going to serve you best?
During the term of a rental contract, your business will not own the asset it is using. The asset is purchased by the finance provider and leased to your business. When the rental contract ends you may have three options (depending on the type of lease):
Purchase the asset from the bank or a third party, should they chose to sell, for the agreed market value
Renew the lease for a further period
Take out a new lease on a new asset and return the asset to the bank or a third party
Also known as a Specific Security Agreement, a chattel mortgage is a loan to your business to buy an asset, with the loan secured only on the asset being purchased. Your business owns the asset from day one.
Pros & cons of a rental contract
When you lease an asset you avoid a major drain on your working capital, especially important if you will only need to use it for a short time. It means, too, that you get to use the latest equipment (such as a truck with advanced fuel economy and safety features) and up-to-the-minute technology (e.g. laptops for your employees to facilitate remote working). Meanwhile, the finance provider, not you, takes the risk that the asset will be ageing, if not obsolete, by the time the lease agreement ends.
On the downside, you won’t own the asset while the rental contract lasts.
From a tax viewpoint, you can claim a deduction for the net monthly payments as well as a credit for the GST portion of the payments.
Pros & cons of a chattel mortgage
A chattel mortgage is a reasonably flexible finance option. You can borrow up to 100% of the purchase price, or reduce your loan repayments by providing a substantial deposit. It’s also possible to structure repayments so that the larger drains on funds come at times when your cash flow is more able to cope.
Unfortunately, because you own the asset, your business is responsible for maintaining it (you are also required to maintain the asset under a rental unless it is a fully maintained rental which has a service element), insuring it, and risking that it may rapidly become outdated.
A GST input credit applicable to the full purchase price can be claimed immediately when you purchase the asset, while loan interest charges and annual depreciation are tax deductions against your business income.
So which one is best for your business?
Your choice of rental contract or chattel mortgage will depend to a large extent on the asset’s type, cost and lifespan, and whether you prefer to claim an upfront GST credit and annual depreciation, or spread your tax deductions over the life of a lease.
A finance lease, which has a relatively low interest rate, can be an ideal alternative to a chattel mortgage for high-value, long-lifespan assets such as commercial vehicles and medical equipment. Since the finance provider is claiming the GST input tax credit, the amount you need to finance is lower than it would be with a chattel mortgage, and repayments can be structured to suit your cash flow.
On the other hand, a rental may be more suitable for quickly outdated IT and telecommunications assets, since you can immediately upgrade to a more up-to-date model (without having to dispose of the old one) when the lease period ends.
Need more advice? It’s a decision that needs careful consideration, but your finance broker has the ability to weigh up the cash flow, balance sheet and tax needs of your business against the type of asset you wish to acquire, to come up with the best solution. Contact us today to discuss your plans.