What are Leasing and Hire purchase?

Leasing and Hire purchase are two related, but different types of finance that allow businesses to buy equipment, machinery, and vehicles they might otherwise be unable to afford.

In this article we’ll explain what leasing and hire purchase are, the difference between the two, and the various benefits and drawbacks of both.

As with all types of finance, it’s a good idea to first seek independent, specialist advice before applying to help you decide if a type of finance is right for you and your business.

What is Leasing?

Leasing allows your business to use an asset in exchange for rental payments, which may include an advanced rental, over a set period.

A lease works as a rental agreement. You agree to rent an asset for a period with a fixed or minimum term and make regular rental payments for as long as the lease contract runs. At the end of the contract, you may have an option to continue renting, or to return or possibly replace the equipment.

Different types of Leasing options

There are two different types of leasing options businesses can make use of:

Finance lease

A finance lease, also known as a capital lease, is a financial arrangement where a leasing company grants a business (the lessee) usage of an asset for a predetermined timeframe. 

Generally, at the conclusion of this agreement, ownership of the asset is transferred to the lessee. 

Throughout the duration of the lease, both the leasing company and the lessee jointly bear certain economic risks and benefits associated with the asset.

During the lease, the business will pay the leasing company for use of the asset.

Finance leasing can be a popular option for businesses looking to purchase assets with a long useful life, like machinery or heavy equipment. 

Finance leasing companies may also be able to offer payment plans that suit the cash flow of a business.

Operating lease

An operating lease (also known as Business contract hire when it involves a commercial vehicle) is the most straightforward type of lease available.

In essence, a business leases an asset from a leasing company for part of the asset’s useful life.
As operating leases typically only cover a shorter period than the lifetime of the asset, a business won't pay for the asset’s full cost. 

As ownership of the asset lies with the leasing company, the business leasing the asset isn’t responsible for the risks and rewards of owning the asset.

As operating leases tend to be short term, a business leasing an asset can often have the opportunity to upgrade at regular intervals.

Another advantage is that a business can offset the rental payments against any profit the business makes as the asset itself doesn’t appear on their balance sheet.

What’s the difference between a Finance lease and an Operating lease?

When deciding whether or not to take a Finance lease or an Operating lease you should consider:

• if you plan to use the asset for the majority of its useful life
• whether or not you’ll want to upgrade the asset regularly
• if you are able to pay any fees for maintenance and repair 
• whether or not you want the asset to appear on your balance sheet.

What is Hire purchase?

Hire purchase is a type of credit agreement where a business agrees to buy an asset from the lender over a specified period. 

After having paid a deposit, the business ‘hires’ the asset from the lender during the agreement period, making fixed payments to the lender, allowing the business to make use of the asset immediately.

At the expiration of the agreement, the business will either own the asset or have the option to purchase the asset outright via a final payment.

Like lease agreements, hire purchase allows you to acquire vital equipment and machinery without large upfront costs that can put a strain on your cashflow and working capital.

What is the difference between Leasing and Hire purchase?

The principal difference between Leasing and Hire purchase is who owns the asset.

With Leasing, the leasing company retains the ownership of the asset whilst with Hire purchase, ownership of the asset rests with the business hiring the asset.

Whilst the leasing company may offer the business the option to purchase the asset outright once the leasing agreement comes to an end, this is not typically automatic.

Another difference between leasing and hire purchase is what happens if the asset needs to be repaired or is superseded by a newer model. 

The leasing company may repair or replace the asset and could also offer support such as servicing as part of the terms and conditions of the agreement.

The same may not be true for a hire purchase agreement so it’s a good idea to be absolutely clear on the terms and conditions of the contract before entering into an agreement.

When considering whether to take a lease or hire purchase agreement, consider whether you need the asset long term.

Generally speaking, the longer term you need the asset the more attractive hire purchase becomes as you can spread the cost over a longer term. 

You’ll also need to consider how much the asset will lose in value over time, also known as depreciation.

In general, assets that depreciate quickly tend to be good candidates to lease rather than hire purchase.

Lastly, if you’re likely to want to upgrade the asset, be it a vehicle, a piece of equipment, or a digger, frequently due to changes in technology or business needs then leasing, which tends to be shorter term than hire purchase, could be the way to go.

Who's involved in Lease and Hire purchase?

Businesses can apply for a lease or hire purchase agreement:

• with a finance provider
• from an equipment provider or manufacturer
• through a broker

Am I eligible for Lease or Hire purchase?

With leasing and hire purchase, there are few restrictions on:

• who or what type of business can apply
• the type of business assets you can fund

The biggest factor in getting approval for this finance is proving that you're able to make the rental payments. 

Even then, the business doesn’t necessarily need to be profitable, just cash positive.

Providers can also consider the revenues that the asset investment may generate for your business and the impact that it will have on your ability to service the rentals.

Another important factor is your credit rating. A poor credit rating could make approval more difficult but it's not always a barrier.

What are the benefits of Leasing or Hire purchase?

Good rates of approval

Success rates are high for leasing and hire purchase applications.

Quick turnaround

Leasing and hire purchase deals are generally speedy. For standard pieces of equipment, such as a vehicle, it could take just a few days.

Few restrictions

You can access leasing and hire purchase regardless of your sector, your location, or the size or age of your business.

Flexibility

A hire purchase agreement allows you to own the asset at the end of the contract. With a finance lease, you rent the asset for as long as you need it, then return it.

And there aren't many assets you can't acquire through leasing or hire purchase.

Improved cash flow

Since Leasing and Hire purchase both require far smaller upfront amounts to gain access to an asset than outright purchasing, they can be very beneficial to a business’s cash flow.

In addition, the fixed monthly amount a business pays the lender or leasing company also offers a degree of certainty over ongoing costs.

What are the drawbacks of Lease or Hire purchase?

As with all finance types, leasing and hire purchase can have some drawbacks for businesses including:

Could affect your credit report

Leasing and hire purchase providers will conduct credit checks when you apply for finance. This may have an impact on your credit report.

Charges

If you want to secure the asset at the end of the leasing or hire purchase agreement, you may have to pay a fee to do so.

Losing the asset

If you default on your payments, the lender may recover the asset. This could harm your credit rating.

Depreciation

If you plan to own the asset after the end of the Lease or Hire purchase agreement, you’ll need to be aware that the asset may well be worth less than the amount your paid for it via the agreement.

What do I need to consider before applying for Lease or Hire purchase?

Here are some important questions you'll need to consider before proceeding with leasing or hire purchase:

• What are the fixed payments?
• How long is the contract?
• What happens at the end of the contract?
• Are there options for a secondary rental period?
• Is this the best option for my business?
• Can I afford the monthly repayments/rentals or does the contract put too much stress on my working capital?
• Do I have a good credit rating?
• Do I want to own the asset at the end of the contract? If so, will I have to pay a fee?
• Am I responsible for maintaining the asset, or is the lease provider?
• Are there tax benefits I or the finance provider could make use of when acquiring the asset?

How do I apply for Lease or Hire purchase?

You can search for leasing and hire purchase providers online.

Before you apply, use this checklist to help decide whether these types of finance are suitable for your business.