What is asset finance?
Small business asset finance explained: the different financing options and their benefits, the costs involved and the variables lenders consider
In order for your business to grow, it is likely that you will need to make a significant investment in a new asset. This could include the purchase of new computer systems and software, new machinery and equipment, or a new motor vehicle such as a van.
As a start-up or small business you are probably looking at the price of your new asset and wondering how you are going to afford the one off, large payment required to make your purchase. This is where asset finance can help.
With asset finance packages such as leasing and hire purchase, you can break down the payment of your assets into monthly bite-sized chunks. This makes the investment much more affordable and has less of an impact on your cashflow.
What is leasing?
With leasing, you are paying for use of the asset and do not own it at any point.
You are not usually required to provide a deposit. Leasing is simply paying monthly to make use of an asset. You will be tied in for a certain period of time, anything from one month to two years.
By paying monthly, you are avoiding the one-off cost of having to purchase the asset as a whole. With leasing, you never actually own the asset yourself as you are simply paying to use it.
Advantages of Leasing:
- At the end of the contract you can simply renew the lease contract, or you may be offered to purchase the asset so you become the owner.
- You will be able to always stay up to date with the latest version of your asset, for instance after an 18 month contract, when your machinery is out of date and the contract comes to an end, you can take out a new lease with the latest machinery that is available. This may significantly impact on the quality of your product/service you can offer to your customer.
- Some leasing agreements also offer a full service package which can include repairs and replacements, saving you money and time when things go wrong as the leaser will have responsibility for the asset’s upkeep.
What is hire purchase?
Once the contract is fulfilled, you are the owner of the asset.
You will likely be charged a 10-20% deposit of the asset’s value. Hire purchase is similar to leasing in the sense that you make monthly payments, however there is one major difference – you own the asset at the end of the contract. This breaks down the cost of your investment so that your cashflow can cope more comfortably by spreading out the cost.
However, you will need to consider that the cost of the monthly repayments, plus the interest, will result in you paying back as much as 25% more than the asset is worth. You will also need to have access to the deposit money required up front.
Advantages of hire purchase:
- You do not need to take out a loan, overdraft or favour from your family to find the cash lump sum you require up front to pay for an asset – you will be able to pay for the asset in affordable monthly repayments.
- You do not require any security or collateral to secure an asset finance deal such as hire purchase.
- Once the contract is paid off, you will be the owner of the asset. This means you can later sell the asset for a lump sum. Remember though, the price will likely be less than you paid throughout the entire hire purchase facility as depreciation occurs and new models of the asset will subsequently have been released. However, you will at least receive some return for your investment in the asset, unlike leasing.
- Finance charges for assets are tax deductable which effectively means that the tax man is financing some of the asset for you.
What are the costs involved in asset finance?
As highlighted previously, leasing usually only consists of a single cost – the monthly lease. This makes it simple to calculate in your accounts. Hire purchase, on the other hand, consists of a deposit of around 20% of the cost of the asset, plus an interest charge which will be calculated and included in your monthly payments.
Hire Purchase Example
To provide a rough estimate on how much a hire purchase agreement may cost you, have a look at this example for a company van.
Asset: Company Van
Deposit Required: 20%
Repayment Period: 36 months (three years)
Monthly repayment: £35 per thousand
With a 36 month repayment period on an asset such as a van worth £10,000, you are looking at paying around £35 per £1,000 per month for the 36 months. This makes payments more manageable as you are not required to make a significant investment in cash right away.
The standard deposit amount you may expect to be paying will be about 20% of the entire value. In this case, 20% of £10,000 would be £2,000 – so we take that away from the overall cost as you have already made that payment upfront.
Now we are ready to calculate the total repayment cost to see how much the hire purchase company is charging you for the finance.
With £8,000 left remaining to pay (as the deposit value has been taken off), there are eight £1,000 chunks in the repayment.
This means you will be expected to pay eight times the £35 per month.
£10,000 minus 20% deposit = £8,000
£8,000 / £1,000 = 8
8 X £35 = £280 per month
£280 per month is much more manageable than £10,000 upfront.
However, if you now multiply the monthly repayments by the amount of months you will be paying for, you can see that the total repayment after the three years (36 months) will come to £10,080.
£280 X 36 months = £10,080
Total Monthly Repayment: £10,080 (minus deposit)
Remember, this doesn’t include the £2,000 deposit you’ve already paid.
£10,080 + £2,000 (deposit) = £12,080
£12,080 – £10,000 (van value) = £2,080
Cost of using the facility = £2,080
Similar to the costs above, if you want longer terms such as four and five years, you will be expected to see the following costs.
36 term contract – £35 per month per £1000 financed after the deposit is taken off.
48 term contract – £25 per month per £1000 financed after the deposit is taken off.
60 term contract – £21 per month per £1000 financed after the deposit is taken off.
The overall cost of a facility will not necessarily be greater or less if you choose to take financing over longer periods, as the guideline costs above suggest.
There are a few variables which affect the cost of the monthly charge for leasing and hire purchase and will be checked by the lender to establish whether you are right for asset finance. These checks may include:
- The type of asset you are purchasing/leasing.
- The value of the asset after the contract is fulfilled (residual value).
- The deposit amount.
- The contract length.
- Your companies credit score.
Generally, the cost difference between hire purchase and leasing is difficult to assess without knowing the above information. You may find that a lease could be more or less expensive than hire purchase as leasing largely depends on the residual value of the asset after the contract ends.
Hire purchase allows you to pay monthly for an asset so that you do not have to pay a significant sum upfront to finance necessary new equipment, software or any other asset which you may require.
Leasing offers a similar monthly payment however you do not own the asset after the contract is complete. To find out exact prices for your particular asset, you will want to visit an asset finance lender or a business finance broker.
Either will be able to offer you further advice on whether leasing or hire purchase may be right for you.