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Business equipment: Should you buy or lease?

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in Small Business Tax,Small Business Tax Deduction Strategies

The answer to the age-old question above depends on many factors, not just taxes. But now that first-year bonus depreciation deductions are a thing of the past (they expired after 2004), the pendulum has swung in a new direction.

Strategy: In today’s environment, leasing business equipment instead of buying it is often advantageous for tax and non-tax reasons. Here’s a closer look.

Tax benefits of leasing

When leasing, your company will typically use a fair market value lease (or a true lease). It gives you the option to return the equipment at the end of the term at no obligation. If you continue to use the equipment, you can renew the lease or buy the equipment at the going price.

With that kind of true lease, you can fully deduct your annual lease payments. That’s usually preferable to buying equipment, which generally results in multi-year depreciation deductions.

For example, a three-year lease can provide more tax benefits than depreciating a machine over five or seven years.

Plus, the alternative minimum tax (AMT) may limit your depreciation deductions for equipment purchases. In contrast, the AMT doesn’t reduce equipment- leasing deductions. So, if your company can’t take full advantage of the tax benefits of equipment ownership, leasing may be a better tax choice.

5 more benefits of leasing

1. Smaller capital outlay. Leasing usually requires a lower up front cash expenditure, compared to a 10 to 20 percent down payment on purchased equipment. As a result, your company will have more cash available for other purposes.

2. Keeping up with the Joneses. When you buy equipment, you run the risk that it will become obsolete before the end of its useful life. But leasing lets you decide among various options at the end of the deal: Renew the lease, buy the equipment or walk away. Regular replacement with new equipment can reduce repair and maintenance costs.

3. Short use time, if required. If your company expects to use equipment only for a short period, you’re probably better off with a lease. Buying such equipment makes you responsible for resale to recoup the remaining value.

4. Lower costs. Certain equipment may be more available at a reasonable price from leasing companies. Leasing may speed up the acquisition process, too.

5. Favorable accounting procedures. Certain equipment obtained via a lease may not need to appear on your company’s balance sheet. That, in turn, can help your overall financial picture with lenders and potential investors.

Bottom line: When adding all these factors together, it often doesn’t pay to buy assets that are likely to become outdated soon. Leasing may put equipment into your company’s hands with the least amount of financial strain.

Final tip: Leasing isn’t always the best option. Buying your equipment may still be a smart move in many cases, especially if you get a good deal on the purchase and can take full advantage of the tax benefits of ownership and you expect to use the equipment for most or all of its useful life.

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