Why Financing Equipment Makes Sense for Business Owners, Even with Higher Interest Rates

In the current economic climate, interest rates have risen to levels we haven’t seen in years. Current prime rate is 8.50% which is what lenders use to set rates for loans, credit cards and lines of credit. Prime rates are usually 3% above the federal funds rate which is at 5.50%. At first glance, this might deter business owners from taking on new financing. However, despite the higher interest rates, there are compelling reasons why financing equipment still makes good financial sense for many businesses. Here’s why:

1. Preserve Cash Flow

Running a business is a balancing act, especially when it comes to managing cash flow. Cash reserves are essential for covering daily operations, unexpected expenses, and seizing new opportunities. By financing equipment, businesses can avoid depleting their cash reserves. This liquidity can be crucial for maintaining smooth operations and ensuring the business can respond flexibly to market changes.

2. Tax Benefits

Many financing options come with significant tax advantages. For instance, under Section 179 of the IRS tax code, businesses can deduct the full purchase price of qualifying equipment financed during the tax year. This can significantly reduce the net cost of the equipment, offsetting some of the impact of higher interest rates. Always consult with a tax advisor to understand the specific benefits available to your business.

3. Maintain Working Capital

Financing allows businesses to maintain their working capital. This is particularly important in times of economic uncertainty or when the business is aiming for growth. Working capital is necessary for funding day-to-day operations and having it available can be the difference between seizing growth opportunities and missing out due to a lack of funds.

4. Inflation Hedge

In an inflationary environment, the cost of goods and services rises over time. Financing equipment at today’s prices can be a smart move because the equipment cost is effectively locked in, even as inflation causes prices to increase. Additionally, the fixed payments on a loan can become relatively cheaper over time as the value of money decreases due to inflation.

5. Improved Equipment and Technology

Staying competitive often means having access to the latest technology and equipment. Financing allows businesses to upgrade or acquire new equipment without the immediate financial burden. This can lead to increased productivity, improved quality, and enhanced efficiency, which can ultimately boost the business’s profitability and market position.

6. Leveraging OPM (Other People’s Money)

Using financing means leveraging other people’s money to grow your business. This is a fundamental principle in business finance. The return on investment (ROI) from the new equipment can often exceed the cost of financing, especially if the equipment leads to increased production capacity, better efficiency, or expanded services.

7. Predictable Payments

Financing typically involves fixed monthly payments, which can help with budgeting and financial planning. Knowing exactly how much you need to pay each month can make it easier to manage cash flow and plan for future expenses, compared to the variability of paying cash upfront which might strain the financial stability of the business.

8. Opportunity Cost

Paying cash for equipment might seem like a straightforward way to avoid interest, but it can come with significant opportunity costs. The money spent on equipment could potentially be invested in other areas of the business that might offer a higher return, such as marketing, hiring skilled employees, or expanding to new markets.

Conclusion

While higher interest rates might initially seem like a deterrent to financing, the benefits often outweigh the costs. Preserving cash flow, taking advantage of tax benefits, maintaining working capital, and leveraging other people’s money are powerful strategies that can support business growth and financial health. Business owners should carefully consider their options and consult with financial advisors to determine the best approach for their specific circumstances. Financing equipment, even at higher interest rates, can be a strategic move that positions a business for long-term success.