When considering your options for acquiring equipment for your business, it's essential to understand the potential tax benefits associated with various financing options. Whether you opt for leasing or financing, each choice carries distinct advantages that can significantly impact your overall tax situation.
This article explores the key tax benefits and savings you can achieve through different types of financing agreements.
In this article…
- What is an Equipment Financing Agreement?
- What are the Potential Tax Benefits of an Equipment Financing Agreement?
- Writing Off Equipment Lease Expenses
- How Much Can You Save On Your 2025 Income Taxes?
- Recap of Potential Tax Benefits for Leasing Equipment
What is an Equipment Financing Agreement?
An Equipment Finance Agreement (EFA) is a popular financial product that enables businesses to acquire necessary equipment through a structured payment plan.
In essence, an EFA is similar to a loan specifically tailored for purchasing equipment, allowing companies to make fixed monthly payments over a predetermined period while utilizing the equipment from day one.
How an EFA Works
Under an Equipment Finance Agreement, the business receives the equipment upfront and agrees to make regular monthly payments that cover both the principal amount and the interest. This agreement generally stipulates that ownership of the equipment will transfer to the borrower at the end of the financing term, differentiating it from leasing agreements where ownership might remain with the lessor.
What Are The Potential Tax Benefits of an Equipment Financing Agreement?
The tax benefits attached to getting new equipment depend on whether you lease or finance it. In fact, it also impacts your payments, like whether you want to make periodic payments or cover the amount upfront.
In retrospect, whether it’s financing or leasing equipment payments, they are tax-deductible. Typically, expenses work as deductions and offer tax relief throughout the lease term and allow businesses to reduce their tax bill.
Accelerated Tax Benefits with Section 179
Normally, when you want to get tax deductions on an acquired piece of equipment, they are realized throughout its functional life. That can take years.
But when it comes to Section 179, you can deduct the entire original purchase price of the acquired equipment in the same year you acquired it. Rather than deduct incremental payments from the total equipment cost for years, you can get the tax benefit immediately.
Pro tip: Before financing equipment, be sure to consult your tax professional or advisor.
Writing Off Equipment Lease Expenses
We get asked a lot of questions from business owners interested in equipment leasing. Some ask “Can you write off equipment lease expenses?” The answer is yes!
There are two ways to write-off expenses when you lease equipment: Capital Lease and Operating Lease. This drastically lowers the overall cost of adding new equipment to improve your business.
Capital Lease
A capital lease is like a contract that grants you ownership of an asset. For accounting purposes, it is treated as if you own the asset and is recorded on your financial statements. This is important because the IRS requires ownership to claim depreciation as a deduction.
With a capital lease, such as an Equipment Financing Agreement (EFA) or a lease with a $1 buy-out option, you can claim depreciation over the asset’s useful life.
CALCULATE YOUR POTENTIAL TAX SAVINGS
Quick Tip: If you’re utilizing a capital lease, have a chat with your tax advisor about optimizing your tax deduction through Section 179. You could potentially write-off the entire purchase price in the same tax year you acquire equipment.
Operating Lease
An operating lease is more like a rental agreement, allowing you to use an asset without owning it. These leases often include options for a fair market value (FMV) purchase or a fixed purchase amount, typically around 10% of the equipment’s cost.
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How Much Can You Save On Your 2025 Income Taxes?
See a breakdown of your potential tax savings of two different $50,000 equipment purchase scenarios.
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Type of Agreement
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Operating Lease
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Capital Lease
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Tax Write-Off
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Deduct Lease Payments: Monthly payments may be deductible during the life of the lease.
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Section 179 Depreciation: 100% of the equipment may be deductible in the tax year it's acquired. Expense up to $1,250,000 of equipment acquired in 2025.
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Tax Savings Example
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Lease Structure
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$50,000 worth of equipment on a 36-month lease with FMV 10% purchase option.
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$50,000 worth of equipment on a 36-month lease with $1 buyout.
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Monthly Payment
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$1,476/month
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$1,858/month
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Projected 2025 Tax Savings
(Assuming 35% Tax Bracket)
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$6,199
([$1,476 x 12 months] x 35 percent)
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$17,500
($50,000 x 35 percent)
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Projected 2026 Tax Savings
(Assuming 35% Tax Bracket)
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$6,199
([$1,476 x 12 months] x 35 percent)
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$0
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Projected 2027 Tax Savings
(Assuming 35% Tax Bracket)
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$6,199
([$1,476 x 12 months] x 35 percent)
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$0
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Projected Total Tax Savings
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$18,597
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$17,500
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* All examples provided herein are for illustrative purposes only. Actual numbers will vary based on credit & individual financial situations.
Time Value of Money
Using a capital lease allows a business to immediately take a tax deduction for the full cost of the equipment. By deducting the entire cost upfront, businesses can reduce their taxable income significantly in the year they purchase the equipment. This deduction lowers the amount of taxes they have to pay.
Getting this tax savings right away means businesses can use more money sooner, rather than waiting to spread out deductions over several years. The quicker they get these savings, the more they can reinvest in the business, which can lead to growth and more financial benefits.
Recap of Potential Tax Benefits for Leasing Equipment
To summarize, capital leases allow for asset ownership and are reflected as such on financial statements, enabling depreciation deductions. This is particularly important for obtaining tax benefits through Section 179.
Conversely, operating leases are similar to rental agreements, providing asset usage without ownership.
These leases often come with options to purchase the asset at either fair market value or a predetermined price. Grasping the differences between these two lease types is key to making well-informed decisions.