Pros and cons of equipment loans

For many business owners, buying equipment is an important part of owning and running a business. But depending on the machinery you need, it can cost tens or even hundreds of thousands of dollars.

Equipment loans can help bridge the gap. According to the Federal Reserve Banks’ 2022 Small Business Credit Survey, 12 percent of small business loan applications in 2023 were for auto or equipment loans. 87 percent of those applicants were at least partially approved.

While equipment loans can help companies purchase essential machinery or equipment, it’s important to consider potential drawbacks and explore alternatives before signing on the dotted line.

What is an equipment loan?

An equipment loan is a type of business loan that companies use to buy business-related equipment. This could be any piece of equipment, including a printer for your home-based business, an espresso machine for your coffee shop or a semi truck for your trucking company.

One main advantage of equipment loans is accessibility. For other types of loans, you may have to provide collateral, which are personal or business assets you own that can be used to secure the loan. Equipment loans don’t require you to offer up assets because the equipment you purchase is collateral.  If you default on the loan, the lender can repossess the equipment to recover any loss.

Other types of loans may also have strict eligibility requirements. But many lenders who provide equipment loans are willing to work with you even if you don’t have great credit, two or more years in business or annual revenues of $150,000 or more. These lenders specialize in offering equipment loans for startups and business owners with bad credit.

Equipment loan vs. leasing

Equipment loans are a popular way to finance equipment purchases, but a common alternative is leasing. Leasing equipment involves renting it from another person or company for a monthly fee.

There are some key differences between equipment loans and leases.

Leasing is a popular option for businesses. According to the Horizon Report from the Equipment Leasing & Finance Foundation, leasing (26 percent) was the most popular way to finance equipment compared to secured loans (19 percent) and lines of credit (17 percent).

Because leasing offers more flexibility, it’s often better for equipment you plan to upgrade or replace in the short-to-medium term. Buying with a loan is more expensive, but for long-term equipment, you may come out ahead by using the equipment for many years, even after paying it off.

Compare the pros and cons of equipment loans

Pros

• Fast funding
• No need for additional collateral
• Offers flexible financing
• Build credit

Cons

• Limited to financing equipment
• May require a down payment
• Could be costly
• Loan could outlast life of equipment

Pros of equipment loans

If you need to acquire equipment for your business, there are lots of benefits to using an equipment loan.

Fast funding

Many lenders offer relatively quick funding for equipment loans, especially if you go with an online lender. You may be able to receive funds in as little as 24 hours.

No need for additional collateral

With an equipment loan, your company does not need additional assets to secure the loan. The equipment you buy serves as collateral.

Offers flexible financing

Equipment financing saves you from having to tie up large sums of cash purchasing equipment. With a loan, you spread the cost over the life of the loan, which can be anywhere from three to 10 years. The longer you hold on to a loan, the more interest you pay overall. But this can make payments more affordable each month.

Build credit

Getting any kind of loan can help your company build credit, but an equipment loan is one of the easier ways to start building credit. They’re usually easy to qualify for, even if your company has no operating history. Just be sure to check that the lender reports your loan activity to the credit bureaus and check whether they report to personal or business credit bureaus.

Cons of equipment financing

Before getting an equipment loan, you have to consider the drawbacks.

Limited to financing equipment

Equipment financing is limited in use. You can only use it to purchase, lease or repair equipment and only equipment that the lender agrees is adequate to serve as collateral. You’ll need other types of loans for other purposes.

May require down payments

Many equipment loans require a down payment of as much as 20 percent of the equipment’s cost. If you’re buying something expensive, you might need a lot of cash, or you may have to look into leasing if you can’t afford a sizable down payment.

Could be costly

Equipment loans tend to have higher interest rates compared to term loans. You may find more favorable rates for term loans from banks or credit unions if you have great credit. If you are a new business or need a bad credit loan, you’ll likely need to work with an online lender. The price for having access to equipment loans is that you’ll pay higher rates and fees compared to loans for business owners with good or excellent credit.

Loan could outlast the life of equipment

There’s a chance, especially if you get a long-term loan, that the loan will outlast the equipment you purchase. For example, if you get a 15-year loan, but the equipment breaks after ten years, you’re stuck with five years of payments for something you can’t use anymore.

Even if it doesn’t break, it may still wear out, become less useful, or become obsolete. You need to make sure anything you buy with a long-term loan will last for a long time.

Who can get an equipment loan?

One of the best things about business equipment loans is their availability. Most types of businesses can qualify for an equipment loan, even if they don’t have much operating history. That’s because the down payment and the equipment serving as collateral reduce the lender’s risk to the point that they’ll offer loans to most borrowers.

Equipment loans are popular in many different industries. According to the Equipment Leasing and Finance Association, the top 10 types of equipment financed in 2022 were:

• Transportation equipment
• IT and related technology services
• Construction equipment
• Agricultural equipment
• Industrial/manufacturing equipment
• Medical equipment
• Office machines
• Materials handling equipment
• Energy equipment
• Furniture and other fixtures

Alternatives to equipment loans

If equipment loans are not the right solution for your financing needs, consider your other options. Several alternatives to equipment loans could help you get the funding you need, including:

• Equipment lines of credit
• Small business term loans
• SBA loans

Bottom line

Equipment financing is flexible and widely available, even for startups and businesses needing bad credit financing. Shop around to compare equipment loans from a few sources to ensure you get the best rate and lowest fees.

Frequently asked questions about equipment financing

• What credit score do you need for equipment financing?

  One of the benefits of equipment financing is that it’s easier to qualify for than other loans. Each lender will set its own minimum credit score requirements, but a minimum personal credit score of 575 or 600 isn’t unusual. Keep in mind that credit score is just one factor lenders consider. They’ll also examine your revenue, operating history, down payment, and other factors.

• What equipment can be financed?

  You can finance almost any equipment for a business, from heavy equipment to storage tools to IT systems. Examples include cranes, excavators, trucks, servers, software, computers, food packaging tools, industrial coolers and box makers.

• How hard is it to get an equipment loan?

  Equipment loans typically are not hard to get. You can qualify for one with moderate credit and a sufficient down payment, even if you’re running a startup.