What Is Equipment Financing and How Does It Work?

Equipment financing is a financing method businesses use to acquire physical assets — from construction excavators and commercial kitchen lines to medical devices and IT servers — by spreading payments over a fixed term instead of paying the full purchase price up front. Lenders typically structure financing as either a loan (purchase-money loan) or a lease. Loans generally transfer ownership to the borrower once paid; leases let you use the asset and may offer purchase or return options at term-end.

Below I walk through the main types, lender underwriting, tax considerations as of 2025, typical costs, and practical tips I use when advising clients.

Types of Equipment Financing

  • Equipment loans (term loans or secured loans): The business borrows to buy the equipment. The lender usually takes a security interest in the equipment until the loan is repaid. Loan terms commonly range from 2 to 7 years depending on asset life.

  • Operating leases (true leases): The lessor retains ownership; the lessee records payments as an operating expense. Useful for short-lived or rapidly depreciating tech.

  • Capital/finance leases: Economically similar to buying — the lessee effectively owns the asset for accounting and tax purposes and records depreciation and interest.

  • Equipment lines of credit and vendor financing: Revolving lines or manufacturer/vendor programs that may provide favorable terms for repeat purchases or bundled support.

  • Sale-leaseback: A business sells an owned asset to a lender/lessor and leases it back to unlock cash while retaining use.

How Lenders Underwrite Equipment Financing

Lenders consider three core areas:

  1. Collateral value: Equipment often serves as primary collateral. For specialty or highly depreciable equipment, lenders price risk higher or require higher down payments.
  2. Cash flow and ability to repay: Lenders evaluate business bank statements, profit & loss, and cash-flow projections rather than just credit score.
  3. Credit and business history: Business and owner credit scores, years in business, and past lender relationships affect rate and term.

Required documents commonly include business tax returns, bank statements, equipment quotes/invoices, and personal guarantees for small businesses.

Typical Costs, Rates and Terms

Rates and terms vary widely by lender type and borrower profile. Bank loans or credit-union loans generally offer lower interest rates for well-established businesses. Alternative online lenders and equipment finance companies may approve younger businesses or borderline credit with higher rates and faster funding.

Besides interest, watch for origination fees, documentation fees, early repayment penalties, and maintenance or insurance covenants in lease contracts.

Tax Treatment (Key Points for 2025)

Tax treatment affects the true cost of financing and can guide whether you buy or lease.

  • Section 179: Businesses may elect to expense qualifying equipment under Section 179 subject to limits and business income rules. For details and current dollar limits, consult the IRS Section 179 page. (See IRS: Section 179 Expense Deduction: https://www.irs.gov/businesses/small-businesses-self-employed/section-179-expense-deduction)

  • Bonus depreciation: The bonus depreciation provision created by the Tax Cuts and Jobs Act phased down after 2022: 80% for property placed in service in 2023, 60% in 2024, 40% in 2025, and 20% in 2026 (absent legislative change). That phase-down affects first-year depreciation calculations and may tilt decisions between purchase and lease. (See IRS Publication 946 for depreciation rules: https://www.irs.gov/publications/p946)

  • Lease payments: With an operating lease, monthly payments are generally deductible as a business expense. With a loan or capital lease, you typically claim depreciation and interest separately.

Always confirm current-year limits and rules with the IRS or your tax advisor because tax law and thresholds can change.

Pros and Cons: Buy (Loan) vs Lease

Pros of buying with a loan

  • You own the asset and can claim depreciation and potentially Section 179.
  • No mileage or usage limits (where applicable).
  • At term-end there’s no further payment if you’ve completed the loan.

Cons of buying

  • Higher monthly payments compared with some leases.
  • You carry residual value and obsolescence risk.

Pros of leasing

  • Lower up-front and monthly payments; potential operating expense treatment.
  • Easier upgrades for technology-heavy assets.
  • Off-balance-sheet treatment possible with certain operating leases (subject to accounting standards).

Cons of leasing

  • You may pay more over the long term.
  • Lease contracts can include maintenance and usage restrictions.

Real-World Examples from Practice

  • Construction Company (Loan): A client bought a $100,000 excavator with a 5-year equipment loan. The lender took a security interest in the excavator; monthly payments were structured to match the asset’s useful life and expected revenue contribution. Because the client planned long-term use, buying saved them money versus repeated leases.

  • IT Managed Service Provider (Lease): Another client in IT leased high-performance servers on a 36-month operating lease to stay current with rapid technology changes. Lower monthly cash outflows preserved working capital while the business scaled. At lease end they exercised a purchase option when the equipment still retained useful life.

Who Is Eligible?

Most lenders will finance businesses across industries, but approval depends on:

  • Business credit profile and owner credit.
  • Time in business and consistent revenue.
  • Balance of equipment value vs. loan amount (loan-to-value).

Startups may qualify through vendor programs, manufacturer financing, or specialty alternative lenders that place greater weight on contracts and projected revenue than on historical credit.

Steps to Prepare and Apply

  1. Inventory needs: List essential equipment and expected useful life.
  2. Get multiple quotes: Collect equipment invoices or vendor quotes — lenders typically require these.
  3. Gather financials: Recent tax returns, bank statements, and P&L help speed approval.
  4. Compare offers: Look beyond monthly payment — compare APR, term, fees, and end-of-term options.
  5. Read covenants: Lease contracts may require insurance, scheduled maintenance, or usage restrictions.
  6. Negotiate residual/purchase price: Especially important for leases — a high residual reduces payments but can create a large balloon if you plan to buy at term-end.

Common Mistakes to Avoid

  • Overlooking total cost of ownership: Maintenance, insurance, fuel, and downtime are real costs.
  • Comparing only monthly payments: A longer term lowers monthly cost but can increase total interest paid.
  • Assuming all equipment qualifies: Some lenders limit financing to certain manufacturers, models, or new vs. used equipment.
  • Forgetting to check tax impacts: Depreciation, Section 179, and bonus depreciation can change the math.

How to Choose the Right Lender

  • Banks and credit unions: Preferable if you have solid financials and want lower rates.
  • Independent equipment finance companies: Flexible underwriting and faster decisions.
  • Manufacturer/vendor financing: May offer promotional rates or bundled service contracts.
  • Online alternative lenders: Fast approvals for smaller-ticket items, though usually at higher cost.

In my practice, I match lender type to business goals: use banks for low-cost capital when the goal is long-term ownership; use leases or vendor financing for highly obsolescent assets.

Short Checklist Before You Sign

  • Confirm total payments and APR.
  • Verify who holds title and when.
  • Check tax treatment with your CPA.
  • Confirm insurance and maintenance requirements.
  • Confirm end-of-term options and any buyout pricing.

Frequently Asked Questions (Brief)

  • Can you finance used equipment? Yes. Many lenders finance used equipment, though rates and terms vary based on age and condition.

  • How fast is approval? From same-day approvals for small-ticket vendor financing up to several weeks for bank underwriting.

  • Do lenders require personal guarantees? Often yes for small businesses, particularly startups or loans from alternative lenders.

Further Reading and Internal Resources

Authoritative Sources

Professional Disclaimer

This article is educational and based on industry practice as of 2025. It is not individualized tax or legal advice. For advice tailored to your situation, consult a licensed tax professional or lending specialist.

If you’d like, I can draft a one-page lender comparison worksheet tailored to your equipment list and business financials to speed decisions and applications.