Tips for Financing a Major Purchase

Don't fall for expensive service contracts. Service contracts that are pitched to you when you buy a piece of business equipment are often a good deal for the supplier but not for you. In most cases, the amounts you'd spend on a service contract is wasted money. This is especially true in the case of generic equipment that normally carries a warranty anyway if something is going to go wrong, it will generally do so in the first 30 to 60 days, when your warranty should cover the problem.

There may be situations where service contracts are a good deal. For example, if the equipment was custom-built and is expected to need regular maintenance in the future, if spare parts and knowledgeable labor will be hard to find, or if getting repairs done immediately is extremely important to your business's operation, you might decide to purchase a service contract on a trial basis.

Compare the NPV of the loan payments. If you have decided to purchase a major asset and are planning to take out a loan, a good way to compare the options available is to do a net present value analysis of your cash flows under the various interest rates and terms your local lenders have available. Your cash flow projections should consider the loan payment outflows as well as the revenue inflows that would result from your purchase or project.

Negotiate the payment schedule you want. While you're thinking about the appearance of your cash flow budget after you complete the purchase or project, remember that you may be able to structure your loan payments to coincide with your expected cash inflows from the project. For example, you may be able to put off the first loan payment for several months, until you have begun to receive a revenue stream from the project. Depending on how strapped you are for cash, you may even be willing to accept a higher interest rate in exchange for this privilege (especially if your loan agreement allows you to pay off the loan early and refinance without a prepayment penalty).

First choice for financing: suppliers. Often the best source of financing for a major equipment purchase is the manufacturer or supplier of the equipment itself. Suppliers have a vested interest in qualifying you for the loan if you don't qualify, they may not make the sale. Moreover, because they believe in the quality of their equipment, they're more likely to accept it as loan collateral than a bank or finance company would. And, they may be more willing to finance a greater percentage of the purchase price without requiring a hefty down payment.

Used equipment may qualify for higher loan-to-value ratio. If you do decide to use third-party financing (like a bank or finance company loan), you may find that you can finance a greater portion of the purchase price if you opt for used equipment. Why? New equipment depreciates so quickly that its value in a foreclosure sale may be as low as only 50 percent to 60 percent of the purchase price, after just a few months. Because the bank won't want to finance more than it can easily recoup by foreclosing and selling the equipment, you may have to make a very substantial down payment on the item. However, the price of used equipment is generally closer to the fire-sale value, so the bank may more willing to loan you most, or even all, of the purchase price.