How Can a Equipment Financing Help Your Small Business?
If your small business requires equipment or needs updated equipment, you may be a bit panicked regarding how exactly you are going to pay for it. You are not alone—this is an all too common problem for many entrepreneurs. They need updated tech equipment, or heavy machinery, or new manufacturing equipment and the funds simply are not there. They therefore have to scramble and take cash from other places in order to cover the cost of said equipment.
So what do you do in this type of situation? How do you come up with the funds for the equipment replacement, purchase or update? Do you dip into your reserves? Borrow from a retirement account? These obviously are not going to be the best courses of action. In many cases, a small business owner will look into some form of equipment financing. And in the long run, this is going to be the smartest move versus tapping into resources that you simply cannot afford to deplete.
If you are in the market for new equipment for your small business, odds are pretty good that you may need some sort of commercial loan to purchase this equipment. Have you done your homework? Have you looked into the various equipment financing options available? Depending on your industry, business type and size, there are some financing solutions that will work better than others. You definitely want to be aware of all that is available and go from there.
An equipment loan is perhaps the most straightforward loan product that you can get when it comes to purchasing equipment for your company. The good thing about equipment financing via an equipment loan is that the equipment itself—be it technology or a construction vehicle for example—serves as the collateral on the loan.
The issue for many smaller companies is that when it does come time to apply for financing, when asked about the availability of collateral to put toward securing the loan, they unfortunately are at a loss. If the company is newer, the collateral on hand is usually minimal or nonexistent. And so, what happens? Their loan application is denied because the bank lacks the needed security to approve the loan. The small, newer company is simply too much of a risk.
With an equipment loan however, the picture changes a bit. Let's say for example you need to purchase new servers for your IT business. When applying for your equipment loan, the servers in question would become the collateral. And in many cases, a lender (especially an online or alternative lender) will give you 100% of the financing because there is this built-in collateral.
Keep in mind, if you do for some reason default on your equipment loan, then the lender has the right to take the equipment back in an effort to recoup its losses. The equipment after all was the security on the loan. Also, it is worth noting that not all lenders will just accept the equipment being purchased as the collateral. There are some instances in which a lender will also ask for up to twenty percent down. This is why shopping your equipment loan around and seeing which lender can best accommodate your small business needs makes sense.
With equipment loans of this nature, repayment periods can vary quite dramatically. Some may finance their equipment for as short a time as three years, while others might opt to stretch that repayment period over the course of ten or sometimes even more years. Again, it is about identifying that lender who can work with both your immediate and long term needs.
It is also worth mentioning that the interest rates on these types of loans can vary widely as well. While some companies with a better credit history and solid track record, more years in business and a larger annual revenue might benefit from an interest rate around seven or eight percent, if your company lacks a solid track record and has only been in business for a year or so, then you could be looking at as much as 30% or more where your interest rate is concerned. That said, you don't necessarily need great credit to qualify, but you will most likely be looking at higher rates if your credit is on the lower side.
The SBA also has a loan program within which equipment purchases qualify as eligible expenses. Particularly if you have rather large equipment loan needs, this might be a great financing option for your small business. In order to qualify for a 504 Loan through the SBA, a company has to be a for profit business and their net worth must be less than 15 million.
As with other types of equipment loans, with this loan, the equipment will most often serve as the collateral on the loan. So again, if you default for some reason, the lender can then seize the purchased equipment and try and recoup their losses that way. Also note that with an SBA 504 loan, the business owner usually will have to sign a personal guarantee for the money borrowed. This means that in the event of nonpayment, the lender can ultimately go after the personal assets of the guarantor. This could include real estate, your personal home, vehicles, jewelry, you name it. This is something you want to consider carefully prior to applying for the loan and consequently signing the guarantee. Make sure that you can comfortably afford those loan payments, otherwise you could be looking at major trouble down the road.
The good thing about this SBA loan is that the loan amounts are generally larger than you'll find with a term loan or equipment loan. Borrowers can potentially qualify for up to 5.5 million. And the repayment period can span up to twenty years, which may make it easier for some businesses to handle. There is a fee associated with this particular loan. And the process itself can be rather lengthy. So if you need the equipment right away, this might not be your best option. The process start to finish generally takes at least eight weeks and sometimes longer depending on the loan details as well as the time of year.
Many small businesses will already have a line of credit in place and consequently use this to purchase the necessary equipment. Or if they do not already have a business line, they may apply for one when faced with the need for updated equipment. In some cases, a company can qualify for up to a one million dollar line. This does not mean that they will draw on the entire amount to buy the equipment. Rather, they draw upon the line when needed and only pay interest on what they have taken out.
The good thing about going this route when it comes to equipment financing is that your credit score does not have to be stellar for you to qualify; this is why a line of credit is usually a popular option with small businesses, especially newer small businesses who have yet to establish a solid credit history. The other benefit here is that obtaining the line of credit is a pretty quick process. It generally takes no more than three to four days beginning to end, which, when compared with how a traditional bank operates, represents a huge difference.
Very often, small businesses will work with alternative lenders to procure their needed line. Also keep in mind too, that a line of credit is generally revolving. This means that when you pay back the amount borrowed that money will be available for you to use again. These types of loans can have higher rates associated, so you want to try and repay the money that you take out sooner rather than later.
An equipment lease will work very much like an equipment loan. The lender will issue you the cash to purchase the machinery or tech equipment etc. and then the company in turn will pay each month on this amount. The key difference is that with an equipment lease (as the name suggests), you are only renting the equipment.
For all intents and purposes, the lender will be the noted owner of the equipment in question. The benefit here is that the terms can be somewhat less rigid than you will get with an actual equipment loan. The rates can sometimes be better as well. At the end of your lease term, you will then usually have the option of purchasing the equipment outright. Because you have been paying on it for a set period of months/years, the buy out for the equipment is usually low—sometimes for even just a dollar you can purchase the equipment at the conclusion of the lease term.
Why lease versus buy the equipment? For those who may need to update their equipment more frequently (i.e. those companies in the etch sector), this way may make more sense than purchasing the needed equipment. Equipment can become obsolete rather quickly. The last thing you want is to be stuck with outdated equipment and worse, still paying on it. With a lease, you have the flexibility of being able to rent new equipment when you need without having to fulfill your loan obligations on the old equipment.
This list of equipment financing options just scratches the surface. There are other loan types, not to mention, many lenders will actually custom tailor a loan product specifically for your needs and budget. That said, there are a few common things that all lenders will require you to have/show when you do go to apply for an equipment loan or some other such loan.
There are other required documents which might include articles of incorporation, licenses, real estate leases, and so forth. It is a good idea to prepare whatever you can ahead of time to help speed the process along. Visit our equipment financing details page here.
First Union offers a variety of equipment financing types to suit a multitude of small business needs. Call today!
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