Please note: This article was written in 2015. Contact our Nexia team for the latest advice.
Hire purchase, lease or chattel mortgage – Financing your business assets
Are you thinking of acquiring, upgrading or replacing capital assets that will be used in running your business?
Overview
As you are aware, there are different ways to finance assets that will be used in your business (e.g. cars, boats, trucks, buses, aircraft, computers and other machinery and equipment).
The type of finance chosen can affect:
- when the legal ownership of the asset changes hands (e.g. when does the client become the owner); and
- the amount and type of tax concessions available (e.g. who can claim the depreciation or monthly payment as a tax deduction).
It is often difficult to decide which kind of finance to use.
To assist you with making this decision, we have provided a brief overview of three of the most common types of asset financing. As you will see, the rules relating to asset financing can be very complex and can be a challenging task to determine what type of finance suit your business the best.
At Nexia, we have the necessary business knowledge and experience to assist you in making such financing decisions.
Get in touch with our team of specialists to discuss any of the issues in more detail or if you would like us to perform a financial health check of your affairs.
Hire Purchase
- Amount financed is the GST inclusive amount of the assets (less trade-ins or deposits)
- Client can claim depreciation and interest charged (but not monthly instalment payments)
- New GST rules apply (for entities accounting for GST on a cash basis) to hire purchase agreements entered into from 1 July 2012 (upfront claim for input tax credits)
What is it?
Under a hire purchase agreement the financier buys the asset and the client hires the asset from the financier for a fixed monthly repayment over a set period of time.
During this time, the client may use the asset but is not the owner of the asset. The title to the asset only passes once the goods have been paid for.
The financier must finance the GST inclusive amount less trade-ins or deposits.
What happens at the end of the hire purchase?
At the end of the hire purchase agreement, the client becomes the owner of the asset when it makes the final payment. The residual value can be fully amortised (so there is no residual value) or have a residual value to reduce the monthly instalments.
Income tax treatment (Division 240)
The client may claim tax deductions for:
The client may not claim the monthly instalment payments as a tax deduction.
GST treatment
GST is charged on the purchase price of the asset and on interest and fees payable on settlement of the contract (but not on the residual payment). GST can either be added to the loan or paid up-front.
For hire purchase agreements entered into on or after 1 July 2012, the GST registered client can claim an input tax credit upfront2 (for the price of the asset) regardless of whether they use the cash or accruals basis of accounting for GST.
Chattel mortgage
- Amount financed is the GST inclusive amount of the assets (less trade-ins or deposits)
- Client can claim depreciation and interest charged (but not monthly instalment payments)
- Upfront claim of GST input tax credits
What is it?
Under a chattel mortgage agreement, a seller/financier advances funds to the client to purchase the asset. The seller/financier takes out a mortgage over the asset acquired as security for the loan.
Unlike a hire purchase agreement, the client will immediately become the legal owner of the asset.
The seller/financier must finance the GST inclusive amount of the assets (less trade-ins or deposits). Financing is done through a loan.
What happens at the end of the chattel mortgage?
Once the final payment has been made (i.e. the residual value has been fully amortised), the security interest over the asset is removed.
GST treatment
GST is charged on the purchase price of the asset but not on the monthly rental or the residual payment.
The GST registered client can claim input tax credits upfront for GST paid on acquiring the asset as soon as they lodge their BAS (and not progressively over the term of the loan).
Income tax treatment
As with a hire purchase, the client may claim depreciation (up to the depreciation limit for vehicles), running costs and interest paid as tax deductible expenses from the start of the chattel mortgage.
Operating lease
- Amount financed is the GST exclusive amount
- Client can claim whole monthly payment as a tax deduction (except if client leases a car under a salary sacrifice novated lease agreement or does not use it for business purposes)
- GST input tax credits claimed in each monthly or quarterly BAS
What is it?
Under an operating lease, the financier/lessor purchases the asset and leases it out to the client.
The client may use the asset for the duration of the agreement in exchange for payment of a fixed monthly lease rental for the term of the lease – but ownership of the asset remains with the financier/lessor.
Unlike hire purchase agreements and chattel mortgages, the amount financed under the lease is the GST exclusive price3 of the asset – resulting in lower monthly payments for the client.
What happens at the end of the operating lease?
At the end of the lease, the client can either:
GST treatment
GST is charged on the monthly lease rental and the residual value at the end of the lease.
A GST registered client can claim back GST input tax credits contained in:
Income tax treatment
Lease payments (less GST input tax credits) are tax deductible if the asset is used for business purposes. A tax deduction can also be claimed for lease payments made in advance.
How can Nexia help you?
As you can see, the rules relating to asset financing can be very complex. Therefore it can be a challenging task to determine what type of finance would suit your business best.
Please contact a local Nexia Advisor if you would like to discuss any of the issues mentioned in more detail or get in touch if you would like us to perform a financial health check of your affairs.
- For the 2014 income tax year, this value is $57,466.
- The position prior to 1 July 2012 was different: Only eligible taxpayers on the accruals basis could claim GST input tax credits upfront; eligible taxpayers on the cash basis could only claim GST input tax credits progressively on each payment.
- GST exclusive because the financier/lessor can claim back the GST input tax
