Answers to your financing questions

Editor’s Note: In this issue, Canadian Metalworking invited shop owners from across the country to submit leasing/financing questions to be answered by expert Ken Hurwitz. This is a selection of the most common themes and most interesting questions. To get your questions answered in a future issue, please send them to Editor Joe Thompson at jthompson@canadianmetalworking.com.

Q: What’s the difference between leasing from my machine supplier or through a leasing company?

A: There is really no difference between the two when it comes to the process of getting your financing approved.

Regardless of the underwriter, submitting an application and providing the required financial information is very much the same no matter where you go. Every lender reviews the same material.

Assuming the application is approved, the terms normally are the same as well. A lease typically runs from two to five years. This, however, is where the similarities end.

If the machine supplier is also the machine manufacturer, then it may offer an interest rate subsidization, which essentially means it discounts the machine cost internally to offer what looks like a cheap interest rate.

This may not actually save you money.

Typically, you’re better off long-term if the actual price discount is assessed upfront and the financing arranged at market rates. This is because an upfront discount reduces the total amount that you’re borrowing. The lease is then arranged for a lower amount than, say, a transaction with a larger total amount but with a “cheaper” interest rate.

Even when the supplier is a local distributor and not the machine’s manufacturer and has asked a specific funder to handle the transaction, it is possible a discount is being offered between them, which is being used to subsidize the rate.

Sometimes securing a “cheap interest rate” often requires you to make a large, upfront deposit.

The machine supplier may only fund 80 per cent of the machine’s cost to mitigate the risk in offering the financing. If the underwriting is being done by an equipment manufacturer who does not have lending expertise, they will require a deposit. This gives them a level of comfort in the event the deal goes bad and the equipment must be reprocessed and resold.

Be sure to seek clarity for how harmonized sales tax (HST), provincial sales tax (PST), and/or goods and services tax (GST) are handled. From the perspective of both the Canada Revenue Agency and your internal accounting process, the lender pays the taxes in full to the machine seller and then charges taxes on each lease payment. If the lender is a U.S.-based entity, it needs to have the taxes paid in full for the transaction, which, for an expensive asset like a machine tool, is a considerable amount of money and may apply additional pressure on your cash flow.

Q: I have not been approved for the full amount of the machine I want. How can I still make this transaction happen?

A: Pulling a deposit from working capital often can be problematic. However, you could have a lot of “money” sitting on your shop floor in the form of existing equipment that can be used as collateral.

When it comes to machine tools, anyone with manufacturing industry knowledge knows that a good used, brand-name machine tool is an asset that holds its value over a very long time.

If you want to use existing equipment as collateral, the only hurdle is ensuring that the asset’s ownership title is conveyed to your lender because it needs to be in first position for repayment for anything they are using as collateral.

This can be difficult because most companies have a general security agreement (GSA) in place with their bank. Every customer I have worked with, unless they are a startup, has a banking relationship and some form of operating line. A GSA is signed when an account is opened, and it gives the bank the first shot at all of the company’s current and future assets if there is a default. The key word here is future because over time, most companies grow and accumulate assets. Once these assets have been paid for, they become part of the bank’s security (the GSA), irrespective of how the purchase was financed.

To use existing equipment as collateral, your bank must provide a waiver, which is a simple document indicating that it wishes to waive its interest in a specific piece of equipment so another lender can use it as collateral.

In some cases, depending on the relationship, getting this document signed is quite simple. But I have also seen banks make it very difficult on my clients by refusing to waive its interest in any asset unless they are getting taken out completely.

Q: If I don’t “own” a leased machine, do I need to insure it? Who does the maintenance?

A: Leased machines always have an insurance requirement specifically because the lessee does not own the machine.

The lessor is the funding entity that paid for the equipment in full, and, therefore, requires insurance to be in place in case the equipment is lost, stolen, or damaged. Also, when it comes to machine tools, they also require liability insurance just in case an individual is injured while using the equipment.

Even though the machine is owned by a lender, in reality, the machine should be treated as if it is owned by the end user.

All equipment leases are setup as “lease-to-own,” unlike a car lease that has both large residual and walk-away clauses. A machine tool funder is not looking for ownership at the end of the term and is happiest when the client makes all the regularly scheduled payments and the transaction is paid in full.

In addition, lenders expect the lessee to maintain proper maintenance for the equipment. This is a standard clause in every lease agreement because, in the event of a default, the lessee will be responsible for any outstanding payments as well as for all costs associated to put the machine into proper working order so it can be resold.

Ken Hurwitz is vice-president of Equilease Corp., 416-499-2449, ken@equilease.com, www.equilease.com.