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Small Business Taxes [When to use Capital Leases vs. Operating Leases] - YouTube
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Hello everybody today,
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we're going to talk about capital
leases versus operating leases.
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Here with Andrew McMilan. I'm Ray
Halstead with REH CPAs. Uh, Andrew,
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a lot of the questions that we
get from small business owners,
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wherever they go to buy a big piece of
equipment or automobile then and there
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say, Hey, should I, you know, I
want to do this lease, but, uh,
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what is the difference between a capital
lease and an operating lease? Yeah,
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it's important to understand
the difference because
there's two different tax
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treatments on which type of lease it
is. So if it's an operating lease,
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it's really just kind of how
the name says. It's just,
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you just use it in your normal
operations with the business.
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You're deducting those rent payments
directly off of your property rental.
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You don't own it. You
don't take possession of it
after the end of the lease.
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It's just, you're truly renting
that piece of equipment.
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I kind of like to use a vehicle
example, like a lot of people,
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at least vehicles before pay
some money down, you pay five,
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600 bucks a month from there on
out that, that, in that example,
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it would all just be deductible. Um, as
your business, as, as you're paying it,
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there's not a, and at
the end of the lease,
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you usually have like a fair market
value purchase option at the end of it.
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So those are all operating leases. right,
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You lease a car for life and the
value of a 30 grand. When you lease,
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then at the end of the lease
term, you can buy at 15,
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then you're just basically renting you're
renting. So on the flip side of that,
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you can, some leases are what's called
capital leases or even financing leases.
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Those are kind of two of the same
terms there, but capital leases are,
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you kind of have the, um, it,
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the optics optics around it are like
you've purchased this actual piece of
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equipment. So, so there's,
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there's a couple different
rules that they call a lease,
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but it looks like a purchase.
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And there's a couple of rules that they
put you into. So like, if you, if the,
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if your lease payments are more than 75
or the term of the lease is more than
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75% of the assets useful
life, then, you know,
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you've pretty much bought that piece
of equipment and you recorded it as a
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capital lease, right?
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If the present value of the lease
payments is more than 90% of the,
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of the assets cost,
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then you know that the IRS views you
as purchasing that piece of equipment.
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And probably the most,
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the one that we see the most is there's
a bargain purchase option at the end.
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That's pretty much the easiest when
usually I go right down to that one, Hey,
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how much do you have to pay for this
thing whenever you get done, at least,
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do they just give it to you? Is
it like a dollar? They say, yes,
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I think I see it as a dollar
a lot. You have far too much.
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It makes sense because then it's pretty
much their financing and for you over
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that period of time. So it's basically
like you purchasing. Exactly.
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So there's that bargain purchase
option for a dollar capital lease.
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If there's a fair market buy out at
the end and it's an operating lease,
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but the capital lease, you treat those
really just like you purchased it,
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like you just said. So,
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so you put it on the books as an
asset and you depreciate it. So yeah,
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you can take accelerated, appreciate.
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You can do a bunch of different
things with the appreciation. Yeah.
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We've done some other videos on, you
know, writing off assets and stuff.
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So you can actually, um, you know,
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even if you've got a loan or you've
got this lease that you have to pay,
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they view it as if you bought it
with a loan. right. And if you're,
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if you're uh, doing the
bookkeeping on this,
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or you're trying record it in
your accounting records, the,
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the difference between the,
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how the two will look an operating lease
is just going to be a monthly lease
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payment. That's all you're going to see,
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you're going to have rent or equipment
rental or lease as an expense on the P
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and L. Uh, but if it's a capital lease,
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it gets recorded like you acquired
an asset, like you purchased one,
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you're going to have an asset, uh, up
in the asset account. Let's say, it's a,
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let's say it's a, a backhoe. You're
going to have a backhoe up there.
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And he asked that account,
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and then you're going to have to do
the lease liability down as a liability
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payment.
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And there some work that has to be done
to try to figure out how much of that
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lease payment is considered interest and
how much I was considered a principal.
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Uh, but your CPA can absolutely
help you with that. Yep. Yep.
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So you just write off just
their depreciation and, um,
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just two different ways of looking at it.
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And usually a capital lease is a little
bit better because it gives you some
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more options. It gives you quicker
if you want. But anyway, no,
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that's a pretty good explanation.
We run into all the time,
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especially with our construction
guys that are constantly, uh,
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leasing equipment and things like that.
So a really good explanation, Andrew.
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Um, again, this is Ray Halstad. I'm with
Andrew McMillan, reh CPAs. If you, uh,
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if you like this video and
you'd like to watch some more,
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go to our YouTube channel, hit the,
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but we appreciate you guys watching
and we'll talk to you soon.
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