Everything You Need to Know About Equipment Loan Financing
Whether you run a new business or you’ve been in business for many years, most small businesses need to get new equipment from time to time, and for a variety of reasons.
If you’re starting a new construction company, for example, you might need to assemble your inaugural fleet of heavy machinery. If you’re an entrepreneur, you might decide to open up a non-emergency medical transportation business and need to buy an ambulance. A successful restaurateur might decide to remodel their kitchen—or open a new location altogether. A growing painting company may decide to purchase an additional utility van to serve more customers.
Whatever the case may be, these expenditures—particularly when they are unplanned—can be prohibitively expensive.
Restaurateurs, for example, can expect to spend between $30,000–$150,000 to simply upgrade their kitchen. Few small business owners have that kind of cash sitting in their Rainy Day Fund.
Unless a company has enormous cash reserves in the bank, chances are they’ll have to figure out how to finance most of the equipment and machinery purchases they need to make.
Why?
One of the biggest reasons: 60% of small businesses face cash flow problems each year.
When a company needs to acquire new equipment, upgrade existing machinery, or replace old equipment, it can be quite difficult to find the funds needed to do so.
After all, small business owners have to pay operating expenses every month, and they need money on hand to be able to pursue new opportunities, too. That being the case, many small business owners who need equipment and machinery look to outside sources for financing.
Read on in this guide to learn all about equipment loans for your business.
What Is an Equipment Loan?
As the name suggests, an equipment loan is a form of financing that enables small business owners to get the equipment and machinery they need to grow their companies when they’re short on cash.
In most instances, depending on the lender, small businesses are responsible for a down payment of 10%–30%; the loan provider finances the rest. Some lenders, however, may be willing to finance the entire cost of the equipment—at a higher cost.
Unlike traditional bank loans—which may require you to put up your own property to obtain—you don’t have to put up any collateral to secure an equipment loan. In the event you are unable to repay your debt, however, the lender may repossess the equipment you’ve procured and use it to cover its losses.
The equipment loan landscape is quite diverse with many highly specialized lenders. Some lenders exist solely to finance construction companies while others only lend to agricultural businesses, and so on.
Since lenders can repossess your equipment in the event you can’t repay your loan, these financial vehicles are relatively easy for most small business owners to obtain. From a lender’s standpoint, there’s less risk. However, because acquiring new equipment usually translates into increased revenue, many borrowers have no problem settling their debts.
Who Uses Equipment Loans?
Businesses across all industries can use equipment loans. Some examples of these use cases include:
- Construction companies. Use an equipment loan to buy bulldozers, backhoes, excavators, and other heavy-duty machinery to build houses and commercial buildings.
- Farming businesses. Those in the agriculture industry can use equipment loans to obtain tractors, sprinkler systems, milking machines, plows, and more.
- Auto body shops. Mechanics might turn to an equipment loan to finance the procurement of diagnostics machines, welding equipment, specialized auto parts tools, and other body shop necessities.
- Shipping companies. The owner of a shipping company might need an equipment loan to expand their fleet of trucks.
- Healthcare providers. A dentist or medical office may apply for an equipment loan to obtain medical equipment, including examination tables, x-ray machines, sonograms, EKG machines, and more.
- Restaurants. Refrigerators, freezers, stoves, grills, and deep fryers can also be financed via equipment loans.
- Breweries. A startup microbrewery—or even an industrial juggernaut—can use equipment loans to buy brewery tanks, grain milling and handling systems, boilers, pumps, and more.
- Manufacturers. Wrapping and packaging machinery, conveyor belts, and specialized manufacturing equipment can be obtained with an equipment loan.
- IT companies. Managed service providers and other IT firms can use equipment loans to buy computers, servers, software, hardware, wiring, cooling equipment, and more.
- Creative agencies. Similarly, digital marketing agencies can use equipment loans to buy computing hardware and software, scanners, printers, and photo and video equipment, among other things.
As you can see, equipment loans can help all sorts of businesses get the tools they need to deliver more value to their customers. Now that you understand how equipment loans can be used, let’s take a look at the factors you need to consider when shopping for one.
What to Look For When Choosing an Equipment Loan
There are several factors to consider when shopping for any kind of small business financing vehicle, including equipment loans:
- The lender’s specialty. As noted above, some lenders only fund businesses in a specific industry (e.g., construction, restaurants, and so on). If you’re a restaurant owner, you probably should avoid applying for a loan from a lender that specializes in loans for manufacturing equipment.
- Size of the loan. While some equipment loan providers are willing to finance up to $2 million worth of purchases, others might only be comfortable with giving you $100,000. The size of the loan and the type of equipment you need can have an impact on which provider you need to work with.
- Qualifications you need. Each different lender has a distinct set of requirements they look for in borrowers. For example, some equipment loan providers might require borrowers to have credit scores of 600 or higher. Others might be willing to lend to borrowers with credit scores of at least 500. Additionally, lenders may look at how long your business has been open and use that information to determine whether you qualify for an equipment loan. Some lenders have no problem financing companies that have been in business for six months while others will require borrowers to have been open for at least two years. Finally, lenders may also judge your worthiness based on how much revenue you take in each year. Some more flexible lenders may only require you to generate $25,000 annually while others might look to fund companies that bring in $150,000 each year—if not more.
- Interest rates. Equipment loans typically have fixed interest rates that range anywhere between 8%–30%. Just remember to do your due diligence to make sure you don’t end up signing onto a loan that will cost your exorbitant sums of money down the road.
- Speed of funding. Many equipment loan financiers can fund small businesses in a few business days—or even faster. Other lenders—and particularly those that work with the Small Business Administration (SBA)—may take several weeks.
- Loan terms. For how long do you want to have an equipment loan? Some lenders may offer 10-year loans while others might offer loans that are expected to be repaid within one year. Look for terms that make sense for your company’s specific situation.
After figuring out which equipment loan criteria is most important to consider for your business, and deciding whether an equipment loan is the right choice for you, then it’s time to begin the application process.
How Do You Get Approved For Equipment Loan Financing?
How exactly do you go about applying for an equipment loan?
While every lender’s application process is slightly different, here’s what you can generally expect you’ll need to do in order to see whether you qualify for financing:
- Gather your business information. Since equipment loan providers have the machinery itself as collateral, they generally ask applicants to submit less information than traditional small business lenders would. In most instances, they’ll require you to submit basic information about your business, including ownership information, contact information, federal tax ID numbers, and whether your business is an LLC, corporation, partnership or sole proprietorship.
- Make sure your credit is in good shape. Equipment loan providers will almost certainly want to check either your personal or business credit score before making a decision about your application. Your credit score is a large part of how they determine the likelihood that you will repay your loan. Remember, when it comes to equipment loans, having a less-than-perfect credit score won’t necessarily prevent you from securing financing since the equipment itself serves as collateral. Still, lenders will generally prefer to give loans to business owners who have personal credit scores of at least 600 or business credit scores of at least 75, though some providers are more flexible. To increase your chances of approval, make sure your credit is in good shape before you apply for an equipment loan. If your scores are a bit lower than you’d like, you can take proactive steps to improve them before submitting your application.
- Collect financial statements. You’ll also need to gather your business’ financial records. Equipment loan lenders typically like to see financial statements, bank balances, and tax records. They’ll likely want to see credit score information, too.
- Create a detailed plan. How do you intend to invest your equipment loan? Lenders will want to know. The more thorough and detailed plan you have, the more likely equipment loan providers will be to sign off on your application.
- Shop equipment loan lenders. Once you’ve gathered the information you’ll need to secure a loan, it’s time to shop providers. Use the above criteria to find a lender that is willing to offer you the money you need with comfortable terms that make sense for your unique situation, if it’s possible.
In most cases, applying for an equipment loan is much easier—and faster—than applying for a traditional small business loan from a bank or other traditional financial institution.
Does it make sense for your business to apply for an equipment loan?
To answer the question, you’ll need to weigh the benefits and drawbacks.
Considering The Pros and Cons of Equipment Loans
Equipment loans are the perfect solution for many small businesses—but they don’t work for all of them. To determine whether an equipment loan makes sense for your company, you need to compare the advantages and disadvantages of this popular financing method.
Generally speaking, equipment loans are attainable for many types of businesses. They require slightly less paperwork than some other types of bank loans. Assuming your application is approved, you can have access to the funds quickly, assuming you work with the right lender.
With money on hand, you’ll be able to increase your competitiveness as you conduct business more efficiently, and more effectively. This, in turn, can help your company unlock new revenue streams.
What’s more, the equipment you ultimately buy with the new funds is then valued as an asset on your balance sheet. The same cannot be said of any new equipment you lease instead of buying.
Equipment loans provide tax incentives, too: Thanks to Section 109 of the IRS tax code, U.S. businesses can deduct the full purchase price of compliant equipment and machinery they procure.
Equipment loans, however, are not without their downsides.
For starters, you can never be certain that the equipment you get will actually help you meet your objectives. Even if you make a well-informed purchase, there are many factors outside your control.
Maybe the economy tanks and your construction business slows down. Maybe a competing restaurant opens next door to yours and customers stop coming in. Maybe we experience a prolonged drought and you can’t use your advanced farm equipment even if you wanted to.
In other words, when you take out an equipment loan, you can never be fully certain you’ll end up using the machinery you acquire for an extended period of time. If you end up not needing it, you’ll likely still be on the hook for the balance of your loan—and interest, and possibly other fees, too.
Odds are, depending on your loan provider, you’ll also have to put down a significant down payment to obtain financing. Let’s say you’re looking to spend $80,000 on a utility van. If the lender requires 20% down, that’s $16,000 out of your pocket. There are also interest rates to consider, too. Equipment loans are known to have pretty hefty price tags. Using one to buy equipment will make that purchase more expensive over the long term, compared to buying it outright up front.
As mentioned above, most reputable lenders will run credit checks before deciding whether to sign off on your loan. These “hard” credit pulls can hurt you, since frequent pulls of your business and personal credit scores can lower them. That can make it difficult to secure other traditional forms of financing in the future, should you need it. While it’s possible to rebuild your credit scores after getting dinged, that process can take as long as a year or two. Many small businesses simply don’t have the luxury of waiting that long for financing.
What’s more, some equipment loan lenders may penalize you if you try to repay the full balance of your loan before the term is up. Imagine you take out a five-year loan to purchase equipment. Business takes off impressively, just as you hoped. Your bank account is flush with cash so you decide to settle your debt. Some lenders may charge penalties for repaying early.
Additionally, you may buy the best equipment in the world. What happens if that equipment breaks down? If you’re taking out a loan to get equipment in the first place, it can be difficult to find the funds needed to make any repairs.
Finally, thanks to Moore’s law and the acceleration of innovation, you may end up using an equipment loan to finance new machinery only to find out, in a few months or years, that you no longer need it because a better substitute is on the market—and without it, your company is stuck in the past.
Equipment Loan: Pros and Cons
Pros:
- Relatively easy to obtain
- Usually fast funding
- Drive competitive advantage
- Help generate more revenue
- Equipment is an asset
- Tax incentives
Cons:
- You may end up not needing the equipment
- May require significant down payment
- More expensive over the long term
- Can require credit inquiries, or damage your credit score
- May be penalties for repaying the loan early
- There can be issues with repairs
- Equipment can become outdated quickly
What Other Loan Options Do I Have?
If it doesn’t seem like an equipment loan makes sense for your small business, don’t sweat it. There are many other funding options available you can use to finance the procurement of the equipment and machinery you need.
For a deeper dive into the many business funding options, check out our guide to small business funding.
Here is a quick overview of just a few options to consider:
- Traditional term loans. Small business owners, of course, always have the option of applying for bank loans. Following the 2007–2008 financial collapse, however, banks are increasingly less willing to finance small businesses—particularly when they need smaller amounts of money. In January 2018, for example, big banks only approved 25% of the small business loans that crossed their desks. While your company may very well be able to secure financing from a bank, the odds are stacked against most small business owners. When banks lend to small businesses, those customers tend to request significant sums of money while having spectacular financials.
- Loans from non-bank lenders. In recent years, a number of new alternative lenders have emerged to meet the needs of the small business owners traditional banking institutions can no longer help. While it’s typically easier to apply for and secure financing from these non-bank lenders, higher interest rates tend to be attached to these kinds of loans. Since non-bank lenders are a relatively new option with rates, fees, and terms that vary quite a bit, you will need to carefully evaluate their terms on a case-by-case basis.
Business lines of credit. How much money do you need? Most small businesses are only looking for $20,000–$40,000 in financing, according to a recent report. If you need to buy millions of dollars of construction equipment, for example, a business line of credit probably won’t work. If, on the other hand, your business’ needs are closer to that of the average company, you may need a few thousand dollars to finance the equipment you need to take your business to the next level.
Good news: Fundbox Direct Draw provides a revolving line of credit up to $100,000 that small businesses like yours can use to finance the procurement of equipment and machinery, or anything else you need for your business. It’s quick and simple to apply for this line of credit and, if you’re approved, funds are available quickly. All remaining fees are waived If you’re able to repay the funds before the end of the term.
- Loans from the SBA. If you’re feeling lucky, you can always try to apply for a loan from a lender backed by the SBA. To do so, you may need to fill out a ton of paperwork and provide mountains of business and financial information. Truth be told, business owners can certainly secure loans with reasonable interest rates from the SBA. For the most part, however, these loans are difficult to obtain. In the event you’re approved, though, you’ll likely have to wait several weeks or even months to access cash. (Want to learn all about SBA loans and how to get them? Check out our guide to SBA loans.)
- Selling equity. When you’re short on cash, you can always opt to sell equity in your company in exchange for financing. You’ll gain expertise from your new business partner, too. At the same time, that individual may decide to exert control over your operations in order to ensure their investment is protected. Unless you’re willing to give up some control of your business, you’ll likely want to avoid heading down this route.
Sign up for Fundbox to see if you qualify for financing today. There’s no fee to sign up and no paperwork required, just click to connect your accounting software and bank account or just your bank account by itself and provide basic business details. You’ll get a credit decision in under 3 minutes.*
*Decision under three minutes based on the median decision time for Fundbox customers.
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