What are the benefits to a small trucking company in leasing their tractors and/or trailers?
Tirey: The three ways people most commonly acquire trucks and trailers are: cash, leasing, or business loans.
It can get confusing when talking about leasing and financing due to technical jargon in defining the type of lease that is being used.
When people talk about financing they are usually referring to structures where the business owner gets the benefits of equipment ownership. Benefits include tax breaks such as claiming depreciation or interest expenses. Each monthly payment should put the lessee closer to owning the equipment at the end of the financing agreement, which can be a plus if you plan on keeping the truck or trailer over a long period of time.
When people discuss lease options, they’re generally referring to structures where a lessee is paying a lender for the ability to use the equipment over a set period of time. Since the company is not putting equity into the equipment, they are typically able to write off their monthly payment as an operating expense. Since the lessor is retaining ownership benefits they can be more flexible on things like down payment, frequency of payments, or how much the carrier could buy the equipment for at the end of the lease.
What are the financial requirements necessary for a small carrier to qualify to lease their equipment?
Tirey: There is a lot of variation in requirements depending on credit score, business financial health, and equipment that a company is looking to finance.
Typically, lenders are going to look for carriers with two or more years in business and some sort of commercial borrowing experience.
If you do not have any borrowing experience and are a startup business, be prepared to come up with a down payment usually in the 20% to 30% range.
What are the different types of leases that are available?
Tirey: There are a variety of different types of leases, and you should speak with a licensed tax professional to find out which one would be best for your business.
The most common type of financing we do is an Equipment Financing Agreement, or EFA. This is a where the carrier gets the title in their name and gets ownership benefits of the equipment.
A true lease or operating lease is the typical structure when people are referring to leasing. Monthly payments should be less than a financing agreement, to the requirement that the present value of payments is not to exceed 90% of the fair market value of the equipment. Payments are treated as rental payments by the IRS and are deductible operating expenses.
A TRAC (Terminal Rental Adjustment Clause) lease is a tax-oriented lease specific to over-the-road trucks and trailers. At the beginning of the transaction the lessor and lessee agree on the estimated residual value of the equipment at the end of the lease term. After the last lease payment, the carrier has the ability to receive any excess proceeds from the disposition of the equipment.
On the flip side, the carrier is also responsible for any shortfall in the difference between the actual residual value and the estimated residual value. This type of lease gives the carrier a financial incentive to keep their fleet in the best possible condition.
What are the standard periods for most long-term leases?
Tirey: Most long-term leases and finance agreements are between 36 and 60 months. For outstanding borrowers leasing new equipment, it is possible to go up to 84 months.
What are the advantages/disadvantages to a longer lease and a shorter lease?
Tirey: A longer lease allows a business to keep the monthly payment as low as possible.
The disadvantage of a longer lease is that even though the monthly payment is lower, a customer is often going to be paying more in finance charges over the duration of the lease.
On a shorter lease the monthly payment is often higher, but the total cost of funds will be lower.
What are the financial benefits to a small carrier’s costs when leasing vs. purchasing equipment?
Tirey: One of the main benefits of leasing vs. purchasing is being able to conserve cash and other financial resources for operating expenses.
Leases are also very flexible in how they can be structured to meet a carrier’s business needs. This can include variable payment structures, ability to upgrade equipment at end of term, accounting treatment, tax treatment, and spreading out soft costs like warranties over the lease term.
When is leasing equipment not advisable for a small carrier?
Tirey: It’s always important to consult with a licensed tax professional or advisor when making large purchasing decisions.
For smaller carriers, and this is especially true of owner/operators, you need to remember that your monthly payment is going to be due no matter what for the next several years. Entering a long-term lease or finance agreement needs to be what’s best for you professionally and what’s best for your lifestyle.
What are the three biggest challenges for a smaller carrier to qualify to lease? And what can a carrier do to avoid them?
1) Lack of experience or planning. Most lenders like to see carriers that have had their CDL for two to five years before striking out on their own, and they expect businesses to have enough savings for a down payment or to cover operating expenses if business gets tough. Make sure that you’re fully prepared and have savings for at least a few months of operating expenses.
2) Growing too quickly. We see a lot of carriers who are trying to grow their fleet from five to 15 trucks over a 12-month period. Although this might be great for top-line revenue, taking on a lot of debt too quickly could limit your ability to get future leases or financing. It’s important to realize just how much leverage your business can handle. A CPA or licensed advisor will be able to tell you if your plans for growth are financially sound before seeking funding.
3) Inconsistent cashflow. Too often we see carriers that might be performing well on an annual basis but have difficulty paying bills during slow months.
Lenders look for a stable average bank balance over the last several months when making credit decisions. Businesses that do not have consistent revenue can compensate for this through disciplined saving in order to maintain a healthy cash reserve when business is slow.
Leasing new or used; when is each one advisable?
Tirey: Leasing new or used equipment depends a lot on personal preference and cash flow needs. An older piece of equipment might cost more to maintain but will also have a significantly lower monthly payment if leased. The opposite is typically true for a new piece of equipment.
If looking at new equipment, the best leasing and financing options available are generally offered by the manufacturers.
For used equipment, it’s often more challenging to make sure you’re getting the best lease or financing deal available. This is where services like LeaseQ shine, by aggregating lenders to deliver multiple options for quick comparison back to the business owner.
Now let’s look at leasing/purchasing from a small carrier’s perspective with Travis Nelson.
Do you purchase or lease your trucks and/or trailers? Why?
Nelson: We previously only purchased; until most recently, we are looking at leasing trucks. Before we liked to own and control the asset. Now technicians are getting harder to train, and trucks are more advanced so full-maintenance leases are more attractive. Leases are also getting to be very competitive with costs compared to owning.
What are the financial benefits to your carrier in leasing or buying trucks and trailers?
Nelson: Purchasing gives us depreciation benefits, up-front price negotiations, desired specifications, etc.
What financing or leasing length of time have you chosen? Why?
Nelson: Typically we go three to four years so we are not paying for a unit after its useful life. We want to build equity.
Leases are typically five to six years depending on terms, but you can build in maintenance so your cost of ownership is predictable.
What are the advantages/disadvantages to leasing vs. buying or buying vs. leasing?
Nelson: Buying gives you the upside risk [during] resale; you can also choose to maintain the vehicle how you want.
You own the asset, so it’s usually lower cost of operation per mile over asset life. You get to decide and schedule maintenance when you want, rent backup vehicles as you choose.
Leasing gives greater cash flow, predictable costs, no resale value risk when the “used” market is soft like current years.
Leasing also makes maintenance much more hands off, because when the truck goes down, they provide a replacement.
There are multiple leasing options now, so you can best utilize your financial position to structure accordingly.
Buying or leasing, new or used; when is each one advisable?
Nelson: We buy and lease all new. We prefer warranties, factory coverages, driver spec’d trucks. We also run a lot of our own maintenance.
What are the financial benefits to your carrier’s costs when purchasing vs. leasing your equipment?
Nelson: Totally depends on where your business is financially. Sometimes carriers need depreciations, and sometimes having lease payments to write off is more advantageous. This can change year
What are the biggest challenges for your carrier to qualify to finance or lease a truck or trailer?
Nelson: We have strong relationships with our bank and lease vendors. We honestly don’t have any challenges at this point.