Leasing is really just another form of borrowing to finance something. But unlike loan finance – where you take ownership of the equipment/asset and offer it or something else as security to the financier as security, lease finance sees the financier take ownership and gives you the use of the goods under contract for a specified period. There are two main issues affecting the cost of your new asset and the returns it generates. The first is the interest rate and repayment structure you choose, the second is the tax implications involved.

Your first objective is to structure competitive financing freeing up your working capital and generally you would do this in conjunction with the advice of your accountant or relevant advisor. You don’t want to have cash locked up in depreciating assets as it reduces your sources of flexible capital you can call on at any time.

There are different methods of financing or leasing dependent upon your business need.

Hire Purchase Agreement

Purpose: A Hire Purchase arrangement is an agreement to purchase a vehicle subject to payment terms to the finance company. You will automatically own the goods when you pay the final payment, different to a lease.

How it works

Term: The term of finance agreement can be from 1 – 5 years.

Deposits: Deposits are not required. You might choose to trade in an existing vehicle in order to put in a deposit to reduce the amount to be financed.

 Residual/Balloon: You can choose to have a balloon payment as the last payment of your finance agreement. This balloon payment is usually between 10% – 40% of the cost price, but may be as low as one dollar, dependent upon the equipment. This decision is usually influenced by the level of monthly payments you are comfortable with.

Owner of the goods: The financier retains legal title (ie: owns the goods) during the term of the agreement. You automatically secure ownership upon payment of the final instalment.

Accounting Benefits: For income tax and GST purposes, a hire purchase agreement is treated very differently to a finance or operating lease. Under GST, a hire purchase agreement is treated as a “taxable supply” on the commencement of the arrangement between the hirer and the financier.

With a hire purchase arrangement, there is deemed to be a sale of the equipment from the financier to the hirer, the GST liability arises at the commencement of the arrangement. Even though the total amount payable under the agreement will be paid by periodic installments and ownership of the equipment will not pass to the hirer until the final repayment. The financier, being the supplier, is responsible for the payment of the GST liability.

Therefore the amount financed is inclusive of GST, and your monthly repayments are not subject to GST unless you are on a cash basis for GST. (Seek advice from your accountant). You can claim the interest component of all repayments. The depreciation of the goods is fully tax deductible providing goods are used 100% for business purposes.

The goods you purchase become an asset that shows on your balance sheet for your business. The goods will also be a contingent liability until the end of the finance agreement. You may be liable to pay fringe benefits tax and should refer to the ATO at: www.ato.gov.au/businesses for further information)

Purpose A novated lease is used for employees who have the option of receiving a car as part of their salary package. The employer pays all rental payments to the financier on the employee’s behalf and the employee enjoys full use of the motor vehicle.

 How it works Term: The term of finance agreement can be from 1 – 5 years and must be in accordance to Australian Taxation Office Guidelines (ATO).

 Novation: The employee then novates the lease to their employer, who assumes all the employee’s rights and obligations under the lease, including responsibility of meeting the lease payments, normally deducted as part of the employee’s salary package.

 Deposits: Deposits are not required. The full purchase price must be financed.

 Owner of the vehicle: The contract is in the name of the employee who remains the registered owner throughout the lease and keeps effective control of the vehicle at all times. If the employee leaves the company, the vehicle remains with the employee. In this situation, generally the employee takes over the payments or gets another employer to make the payments. This means, the original employer is not left with an unwanted car and the employee keeps the vehicle.

Residual/Balloon: You must have a residual payment as the last payment of your finance agreement according to ATO Guidelines. This usually varies between 37% to 75% of the cost price of the vehicle). This amount usually represents the approximate value of the goods at the end of the lease. A residual payment allows for lower monthly payments and leaves you with more working capital to run your business. You may refinance this residual value at the end of the contract (depending on the finance company).

Accounting benefits: The monthly rental payments are 100% tax deductible, providing the goods are solely used for business purposes. The amount financed is exclusive of GST (the finance company covers this cost as they are purchasing the goods for the employee). The monthly rental payments are subject to GST and stamp duty. The residual value and early termination are also subject to GST. Employers can attract employees by offering a vehicle as part of a remuneration package, without having it appear on their balance sheet. However you may be liable to pay fringe benefits tax (Please refer to the ATO at: www.ato.gov.au/businesses for further information).

 

Purpose Available for companies and business professionals to allow them to use business goods such as motor vehicles, trucks, industrial plant, professional or earthmoving equipment. So rather than tying up funds in depreciating assets, you can put your money into what you do best.

A finance lease is a rental agreement, where the finance company purchases the goods for you and you rent it from them for an agreed monthly repayment. The finance company owns the goods at the end of the agreement. It is important to note that there is no option for you to purchase the goods either during or at the end of the agreement. However most finance companies will consider an offer from you to purchase the goods for the residual value at the end of the lease term.

How it works

Term: The term of the finance agreement can be from 1 – 5 years and must be in accordance with ATO Guidelines.

 Deposits: Deposits are not required. The full purchase price must be financed.

Residual/Balloon: You must have a residual payment as the last payment of your finance agreement according to Australian Taxation (ATO) Guidelines. This varies between 25% to 65%. This amount usually represents the approximate value of the goods at the end of the lease. A residual payment allows for lower monthly payments and leaves you with more working capital to run your business. You may refinance this residual value at the end of the contract (depending on the finance company).

  Lease agreement: sets out the:

Owner of the goods: The finance company retains legal title during and after the term of the agreement. However, in most cases, the finance company will usually consider your offer to purchase the goods at the agreed residual value at the end of the lease term. Title of the goods will then be transferred to you as the new owner.

While not usually pursued, legally, the goods should be returned to the finance company at the end of the term. The finance company would then auction the goods and you must pay for any shortfall between the sale price and the agreed residual value.

Accounting Benefits: The monthly rental payments are 100% tax deductible, provided the goods are solely used for business purposes. The amount financed is exclusive of GST (the finance company covers this cost as they are purchasing the goods for you). The monthly rental payments are subject to GST and stamp duty. The residual value and early termination are also subject to GST. The goods need to be shown on the balance sheet as both an asset and liability. However you may be liable to pay fringe benefits tax for any private use of the financed goods. (Please refer to the ATO at: www.ato.gov.au/businesses for further information).

 

Purpose An Operating Lease, Equipment Rental or Rental Agreement is a versatile option for financing high depreciation, short life span new technologies such as computers, telephony and all other office equipment which generally have a short lifespan due to high obsolescence. The finance company purchases the equipment and rents it to you for an agreed payment schedule over a fixed term. Whilst similar to a Finance Lease, an Operating Lease has greater flexibility.

It provides the ability to upgrade to new technology through a simple variation of your existing contract (certain criteria applies). This variation can be implemented during the initial term of the agreement. You can add in pieces of equipment and if required replace or upgrade equipment. You can choose to have maintenance software installation and other intangible items included in the agreement.

How it works

Term: The term of finance agreement can be from 1 – 5 years and must be in accordance to ATO Guidelines.

Deposits: Deposits are not required. The full purchase price must be financed.

Residual/Balloon: You must have a residual payment as the last payment of your finance agreement according to ATO Guidelines. This residual value is determined by the finance company and the finance company is responsible for paying it. Be aware that the residual values are generally not disclosed to you.

Owner of the goods: You have possession and use of the equipment, however, the finance company shoulders most of the risk of ownership.

Expiry of Rental Period: At the end of the Rental Period, you have a number of options:

Accounting Benefits: Rental payments are 100% tax deductible because they are treated purely as an operating expense – the equipment must be used solely for business purposes. Rentals do not appear on the balance sheet, therefore there is no contingent liability. Rental payments are subject to GST, with the amount financed being exclusive of GST. However you may be liable to pay fringe benefits tax (Please refer to the ATO at: www.ato.gov.au/businesses for further information).

 

Purpose: As an alternative to leasing or hire purchase, a Chattel Mortgage or Bill of Sales arrangement is a fixed interest rate loan with security provided by a mortgage over the relevant equipment / vehicle etc. This solution is particularly favourable for those businesses that wish to retain the equipment at the end of the term and account for GST on a cash basis. A Chattel Mortgage, unlike a lease or Hire Purchase Agreement, gives you immediate ownership of the asset from the beginning of the loan. Apart from mortgage stamp duty, the contract or repayments do not attract GST or stamp duty.

How it works

Term: The term of finance agreement can be from 1 – 5 years.

Deposits: Deposits are optional. You may, however, choose to trade in an old vehicle or put in a deposit to reduce the amount to be financed, thereby reducing your monthly payments.

Residual/Balloon: You can choose to have a balloon payment as the last payment of your finance agreement, but it also can be the first month’s payment. This balloon payment is between 10% – 40% of the cost price. A balloon payment allows for lower monthly payments and leaves you with more working capital to run your business.

Owner of the goods: Ownership remains with you throughout the term of the loan. Similarly to a consumer loan however, the vehicle is mortgaged to the finance company. The mortgage is discharged after the final payment has been made and you retain the equipment.

Accounting Benefits: You can elect to pay the GST portion of the invoice price from working capital or fund it as part of the loan amount (the loan can be structured so that when the income tax credit is received, from your next BAS lodgment, it is repaid off the loan to reduce the debt). The interest components of all repayments are fully tax deductible provided goods are used 100%for business purposes. The depreciation on the goods is fully tax deductible.

A Chattel Mortgage attracts added upfront fees and varies between the different finance companies. However you may be liable to pay fringe benefits tax (Please refer to the ATO at: www.ato.gov.au/businesses for further information).