What is it?
Asset finance is often associated with the purchase of equipment (or similar high-cost items) for a business. This type of finance is used by organisations who have the need or the opportunity to grow their business but perhaps may not have the funds readily to hand or prefer to spread the cost over a longer term.
In other cases, a business can use assets they own – such as plant, machinery or vehicles – as security against a loan from an asset finance provider.
Where a business requires the purchase of a new physical asset the finance company will pay for the equipment, plant, vehicle or machinery and the client will pay a regular sum to the provider.
The item may eventually become the property of the business over time, depending on the sort of asset finance involved.
What sorts of asset finance are there?
An asset is an object or resource that has a value and can be converted into cash. Assets can be owned by a company, government or individual and can help these organisations to deliver their purpose or generate an income.
There are several main types of asset finance and a few minor variations. Each has its uses, benefits and disadvantages but all broadly follow the principles of asset finance given above. A general overview of what’s available follows; the scheme(s) offered by your finance provider may not necessarily match all the features shown below, so it’s important to check exactly the terms you are being offered.
Hire purchase (or lease purchase)
This is a very similar model to hire purchase for individuals. The hire purchase provider retains ownership of the asset to be leased over the term of the agreement and leases it to the business for agreed regular fixed payments. Businesses may make a larger initial payment followed by smaller payments on an agreed schedule. At the end of the agreed period, the business can choose to buy ownership of the item outright with a further payment.
Hire Purchase enables you to acquire an asset while paying for it in instalments over an agreed timescale – the term. At the end of the term, you have the option to purchase the asset outright.
It lets you spread the cost of your investment over the life of the asset, making it easier to budget. Hire Purchase is particularly suitable for acquiring vehicles, machinery, construction and commercial equipment with a resell value.
Benefits of Hire Purchase
- More time to repay - Spread the cost over the life of the asset
- Seasonality - We can structure repayments to take account of seasonal fluctuations in your cash flow
- Keep control - You are the owner of the asset for tax purposes and can normally claim capital allowances
- Tax efficient - You can offset your hire purchase interest and charges against pre-tax profits
- Reclaim VAT
Finance lease (or capital lease)
This differs from some other asset finance in that the business is only ever renting the assets concerned. Again, payment is made with regular payments to an agreed schedule. This normally lasts until the finance provider has recouped the purchase value of the asset. In some instances, the finance company may allow the business to share in a percentage of the sale value of an item once it has been sold. The business does not have the option to purchase the asset outright.
Tax-wise, it may be possible for a business to offset the rental payments against their profits. However, this is not possible with long funding leases. The finance company retains the right to any capital allowances, but the business can reclaim VAT.
Our Finance Lease arrangements let you use the equipment you need without having to buy it outright.
You pay us rent for the full use of it. The rental period is flexible and can be tailored to your needs and cash flow. During this period, you will pay us the full cost of the asset, including interest. Then, when you reach the end of the primary lease term you can choose to:
- Continue to use the asset by entering a secondary rental period
- Sell the asset and keep a portion of the income from the sale
- Return it to us
Benefits of a Finance Lease
- Low initial outlay - Quick access to the asset you need without a heavy upfront investment
- Flexibility - Rental payments and lease periods can be designed to match your cash flow
- Cash back - Receive most of the income from selling the asset if you choose to do so at the end of the lease
- Tax efficient - Rentals can usually be offset against pre-tax profits
- Reduce costs - Reclaim VAT on rentals
Equipment leasing is very similar to finance leasing, in that the provider buys the equipment required and the provider then rents this for a regular fixed fee over an agreed period. Once that period ends, the business can choose to extend the lease, upgrade the item, buy it at an agreed sum or simply return it to the provider.
Unlike hire purchase, maintenance and servicing costs for equipment leasing are down to the provider, meaning that the business doesn’t need to worry about this element. As an operating cost, equipment leasing can be offset against gross profit as usual.
Operating leasing is very similar to equipment leasing but tends to be used for specialist equipment or machinery that the business may not want to use for the full duration of the useful life of the asset or has no interest in buying permanently.
Operating leasing is basically renting an item over a short or medium term, with rental costs based on the length of time the asset is required. This type of financing is often cheaper than equipment leasing as the business only pays for the calculated value of the item over the limited lease time agreed.
You get full use of the asset for as long as you need it, without the burden of responsibility of disposing of it or recouping its residual value.
Benefits of an Operating Lease
- Low initial outlay - Quick access to the asset you need without a heavy upfront investment
- Freedom - Full use of the asset without having to buy it outright
- Flexibility - Option to re-rent, purchase or return the asset at the end of the term
- Pay less - Rental cost is reduced as it is based on a percentage of the original capital cost
- Off balance sheet funding
- Reduce costs - Reclaim VAT on rentals
There are basically two forms of asset refinancing: the first is simply using a company’s assets (physical or otherwise) as security against a loan.
The second – more properly called asset-based lending – is where a business sells an asset to asset finance provider for an agreed lump sum. The business then leases back the asset sold from the finance provider – thus repaying the lump sum paid.
Asset refinancing differs from a simple secured loan in that a business can use physical assets they may only partially own as collateral, but only up to the level of equity they have in that item.
As an example, a business has an item of machinery worth £15,000 that they are buying under a hire purchase agreement. They have some £2,500 left to pay, meaning they have £12,500 worth of equity in that asset. Consequently, they can gain asset refinancing against this asset with equity valued at £12,500 (typically they might be able to borrow say 70% of that amount).
Once the refinancing has been agreed, the business makes regular repayments over an agreed period to repay the loan with interest.
Contract hire (or vehicle asset finance)
This form of asset financing relates to vehicles only. A business wishing to expand its fleet will approach a contract hire provider who will source the vehicle(s) required. The business pays a regular amount over the agreed leasing period.
Maintenance and servicing costs remain the responsibility of the provider, rather than the business. For larger companies with multiple vehicles fleet management services may also be included in the base contract hire costs.
Contract hire (also sometimes referred to as vehicle asset finance) carries the benefit of relieving a business of the time and budget-consuming tasks that accompany normal vehicle ownership. The provider is responsible for finding and buying a new vehicle, as well as all maintenance and servicing costs. At the end of the leasing period, the provider also assumes responsibility for the disposal of the vehicle.
Who is asset financing a good idea for?
Asset financing is suitable for a wide range of businesses and organisations, including sole traders and small to medium-sized enterprises, as well as larger companies and corporations. In the past, this tended to be an avenue only used by bigger businesses, but with the minimum levels of finance available being lowered, this has now become a more widespread option for all kinds of businesses seeking asset-based finance.
However, it should be noted that some providers tend to specialise in certain company types, such as limited companies, public limited companies (PLCs) or similar.
What are the advantages of asset finance?
- Small, or zero upfront cost to purchase big-ticket items
- Spreads the cost over time
- Simplifies costs, supports cashflow, aids growth
- No need for extra collateral. The asset is the collateral
- In many cases, the expense of maintenance is borne by the finance company, not you (depends on the type of finance chosen)
- Releases capital for use elsewhere in your business
- Depending on the type of finance selected, asset depreciation may fall to the finance provider, not to you
- With some types of asset finance, the provider must replace the item if it becomes faulty during the rental or loan period
- Can be cheaper than other forms of business financing.
Assets we could consider funding
Classic & prestige cars, plant, machinery, scaffolding, office equipment, commercial vehicles, trucks, computer equipment agricultural equipment. Transportation - LCV, HGV, tractors units, refrigeration units, vacuum tankers, refuge vehicles, trailers. Construction and mining – dump trucks, tipper trucks, mobile cranes, telescopic handlers, crushers, generators, portacabins, excavators. Recycling - crushers, bailers, shredding equipment. Material handling – forklift trucks, tugs, and sweepers, Manufacturing - machine tools, woodwork, laser cuter, milling machines, Print - large or wide formant machines, binders, textiles leather machinery Broadcasting and TV - amps, camera and lenses, theatres, and studio lighting Technology Finance – solar panels, biomass energy, on shore wind, air and ground source heat pumps, anaerobic digestion plants, combined heat and power systems
Non-Standard Loan Types
niche Commercial Loan – secured and unsecured Bridging Loan – stock purchase Flexible short-term loans Cash flow loan Insurance Premium Funding Stock Finance – Vendors Debtor Finance – Invoice discounting VAT Loan VAT on large purchase Revolving credit facility Farming / Bridging
Tax treatment of leases and hire purchase
Hire purchase (HP) - because an HP agreement covers most, if not all, of the useful life of the asset being financed, the accounting and taxation treatment classifies the business as the owner of the asset, even if a small payment is required at the end of the term of the agreement to gain title to the asset. The total cost of the asset will therefore be shown on the balance sheet, with the payment shown as a liability. As payments are made, the liability reduces and the interest element of each payment is charged against profits as an expense. So, if a business buys an asset on HP, they can claim the capital allowances – therefore offsetting the expenditure against taxable profits. The business will reflect in its profits the annual depreciation of the asset.
Finance Lease - when leasing an asset, the leasing company (the lessor or owner) buys the asset and rents it to the hirer or lessee for an agreed period. The accounting and tax treatment depends upon whether the lease is a finance lease or an operating lease. Finance lease agreements usually run for all, or a substantial proportion, of the asset’s working life. Consequently, the lessor transfers all of the risks and rewards of ownership of the asset to the lessee, which is similar to the position they would be in if they had bought the asset. The accounting treatment of a finance lease therefore follows a hire purchase agreement in that the asset is put on the lessee’s balance sheet. Tax-ownership of the asset however remains with the lessor in substantially all agreements with a term of less than seven years. The lessor therefore claims the capital allowances and the lessee obtains a deduction from profits for the rentals paid.
Operating Lease - have a much shorter duration, and therefore do not cover all or nearly all of the asset’s working life. Consequently, it is the lessor (leasing company) which retains the risks and rewards of ownership, and the asset would not be shown on the lessee’s balance sheet. The taxation treatment is the same as for a finance lease in that the lessor charges the lessee a rental for use of the asset, and this is deducted from the lessee’s profits. It is important that businesses understand what types of asset finance agreements are on offer and what the tax implications and associated benefits of each are.