In a nutshell: Should you make a major purchase or rent out what you need? This information may help you make the decision that works best for your company.
To own or not to own? At some point, every small business will face the question of whether to lease or buy land, buildings, computers, factory machinery, office equipment and other assets. The decision is not to be made lightly — choosing to lease or buy can affect financial performance, especially on the balance sheet.
Before you begin to consider buying office or factory space, it’s important to ask if your business is even in the position to make such a decision. There are a few situations that make buying difficult and disadvantageous, such as a lack of financial resources for a down payment (which can be sizable). Unpredictability is another consideration: If your industry’s outlook is unpredictable, it is probably not a good idea to make a long-term financial commitment to real estate.
Companies experiencing rapid growth may also prefer to rent rather than buy, as their real estate needs will change quickly, and renting typically provides more flexibility to add space. This factor is especially important for startup businesses, as Zaynep Ilgaz writes for Entrepreneur:
“A lot of ink has been spilled over choosing a geographic location, but before you consider that, construct a financial analysis of your startup to gain fiscal clarity. Without it, you won’t be able to evaluate cash flow or predict industry fluctuations.”
Some marquee buildings — such as multi-tenant office buildings in premier locations — may only offer the option to rent. Another consideration is that renting can reduce the cost of regular maintenance and emergency repairs. Have a leak? Let the landlord fix it!
Just as there are many reasons to lean toward renting, there are equally compelling reasons for buying real estate. First on the list is the ability to earn equity, which can be used as collateral for future investments.
Buying also offers income statement and balance sheet benefits. For one thing, if you obtain a fixed-rate loan, payments will never go up. Second, you can depreciate real estate over time like any other asset, providing a significant tax advantage.
Owning real estate may also provide you with the flexibility to customize the space to your exact specifications. It also allows you the option of leasing out any unused space to another party, which can provide an additional flow of revenue.
A financial advisor can help you determine which option is best for your business. To get started, search the internet for “lease vs buy business real estate calculator,” which will pull up tools provided by various financial institutions.
Just as with real estate, the decision to lease or buy equipment is important and needs to be considered carefully. QuickBooks, the company that makes business accounting software, lists some of the benefits of each option in its resource center.
In general, leasing provides a greater degree of flexibility and agility for a small business, as equipment can be updated more quickly with a lower up-front cost. This can be especially important for technology, such as computers and up-to-date factory equipment, that needs to be refreshed every year or two to maintain a competitive advantage.
On the other hand, any equipment your company owns can be depreciated over time, providing equity that can be used for future investments. While you must cover the costs of maintenance, you also have the flexibility to customize the equipment as you see fit, which can be important for factory machinery.
An important fact to consider is that, with equipment, leasing often costs more over the long run. Business writer Peter Alexander provides the following example: “Ultimately, leasing is almost always more expensive than purchasing. For example, a $4,000 computer would cost a total of $5,760 if leased for three years at $160 per month but only $4,000 (plus sales tax) if purchased outright.”
The decision may not always be as easy as it seems. If you’re stuck, seek out an advisor that can analyze the tax benefits of each option.