Equipment Finance Tips & Tricks
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  1. #1
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    Default Equipment Finance Tips & Tricks

    Came across a question on the forum related to Equipment Finance, and differences in a rate that a finance company quotes vs. the true rate you're paying. I'll caveat by saying that my background is in finance, so I recognize some of the tricks we're all seeing from banks/brokers/etc. Hope this info helps some with upcoming purchases.

    Types of Equipment Loans/Leases:
    - FMV (Fair Market Value Lease): You don't own the machine, the finance company does. Your payments are, essentially, rental payments. Makes sense if you're planning on upgrading every 2-5 years. Payments will be lower, because your payment is based on depreciation value, and not a full payoff of the purchase price. Good for cash flow, but long term equity will be lacking.

    - EFA (Equipment Finance Agreement): My preferred method of financing. A $1 (can be $100 or $101 depending on the finance company) buyout at the end of the term. Amortizes similar to a traditional loan, with full payoff (outright ownership) as the end goal. Differs from other equipment finance options as there is normally no "breakfunding" language in the contract; which means you will have easily defined prepayment penalty terms (i.e. 2% after 2 years, 1% after 3 years, etc).

    - Capital Lease: This is what most owners who don't ask/specify end up getting. The difference between an EFA and a Capital Lease is the breakfunding language; if you prepay you'll be subject to treasury costs from the finance company that makeup for the lost interest on the remaining balance, as well as any set penalties they have (1%, 2%, etc). If you know you'll go the full term, there is no harm in this type of contract. If you want more flexible prepay options, go with an EFA and specify your prepayment requirements up front.


    Definitions:

    Down Payment: THIS IS IMPORTANT! We all know what a "down payment" is, but how is it applied? If your finance rep refers to something as a "down payment," verify that this is being applied to principle. Many take the full purchase price, claim you're making a down payment, but they end up applying the down payment to additional standard payments. So part of the down payment goes to interest that isn't even owed yet.

    Advanced Payments: Payments made at time of closing. Many finance companies ask for the first payment in advance, and some ask for more than one payment in advance. Just know that an advanced payment changes the rate a great deal. And comparing the rates of two quotes when they ask for a different number of advanced payments is extremely complex. Never immediately jump at the best rate if there are advanced payments (or "down payments" misapplied) in play. See example below...


    Examples of things I've seen that make you wonder how they quoted you the rate they did:


    Ex 1 (misapplied Down Payment):


    $100,000 Purchase
    60 Months
    10% down payment ($10k due at closing)
    6% rate
    No Advanced Payments (first payment due 25-30 days after closing)

    Payment Should be: $1,739.95/Month
    When Down Payment is not applied to principle, Payment is: $1,896.17

    Ex 2 (Advanced Payments):

    $100,000 Purchase
    60 Months
    0 Down Payment
    6% rate
    First Payment in Advance ($1923.66 due at closing)

    Payment Should be: $1923.66/Month
    When they quote an arrears structure rate as opposed to Advanced structure: $1933.28
    (true rate here is 6.21%, but technically quoting 6.00% isn't inaccurate based on the remaining 60 months in arrears).


    The point of my post is to show that equipment finance transactions are not as easy to comprehend as a traditional mortgage that most of us are used to. And, mostly, to point out that the lowest rate quote you receive, is often times more expensive than the APR suggests when "Down Payments" or "Advanced Payments" are involved.

    TIP: When shopping for a rate quote, make sure you're comparing "Apples to Apples" and comparing like terms. Or, avoid all of it and ask for 0% down, nothing in advance quotes. The rate may sound higher, but the true cost of the transaction may just be less.

    Sorry for the long read - hope it's, at minimum, semi-informative. I know the finance side of our manufacturing industry is often foreign to many versed in engineering and not banking.

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  3. #2
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    Quote Originally Posted by Isaac L View Post
    TIP: When shopping for a rate quote, make sure you're comparing "Apples to Apples" and comparing like terms.
    Yup. If you're not willing to learn how to do time value of money calculations, you're not going be able to properly negotiate or compare leases, you'll be eating whats put in front.

    Here, post 5, I tried to explain complete with a spreadsheet for your viewing pleasure. Got a grand total of 2 likes. Everyone either knows and does this stuff already or doesn't care about their dollars and cents

    Trying to make sense of financing offer

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    Quote Originally Posted by Mcgyver View Post
    Yup. If you're not willing to learn how to do time value of money calculations, you're not going be able to properly negotiate or compare leases, you'll be eating whats put in front.

    Here, post 5, I tried to explain complete with a spreadsheet for your viewing pleasure. Got a grand total of 2 likes. Everyone either knows and does this stuff already or doesn't care about their dollars and cents

    Trying to make sense of financing offer
    So true. I also think most folks have their "go-to" finance partner, or just use whomever they bank with. Both can be dangerous options, because you're letting your level of trust in that bank/partner get in the way of a necessity to understand the terms. Nothing wrong with having your equipment loans at multiple different institutions; everything is Auto-Pay these days, anyways, so it's not like it complicates money management.

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    Thank you for posting this.
    I have never financed any equipment but was just offered a purchase agreement to be financed.

    In my modest shop I still don’t think I will accept this arrangement but it is good to be informed on what is being offered.


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