Before you sign your next lease, it would be wise to reflect on the pros and cons between a True Lease - Fair Market Value Lease (FMVL) vs. Municipal Lease (ML). The following information should prove helpful in selecting the right lease for the right application.
True Lease – Fair Market Value Lease (FMVL)
Operating Leases are used by a majority of commercial and private sector entities to procure technology and other equipment that depreciates rapidly. This structure acts more like a rental of the equipment versus loan with intent to own. Under this structure the Lessor holds Title to the equipment and can take depreciation benefits as the owner of the equipment. Since ownership of the machine stays with the leasing company, it is also important to note that under this structure, sale and property tax exemptions may not pass through to the Lessor and under the terms of the Agreement the Lessee would be responsible for the reimbursement of such charges.
Under an Operating Lease, base payments are typically lower then compared to a like term Tax Exempt Purchase structure. Following the base term, the Lessee has several options;
1) the equipment may be returned without penalty;
2) the lease term may be re-negotiated and extended;
3) the equipment may be purchased at its then Fair Market Value; or
4) the Lessee may continue to make monthly payments beyond the original term until they are ready to exercise one of the three previously listed options.
The town will bill the leasing company for sales tax and property tax. The FMVL lease agent will forward that on to the tax-exempt entity such as a school district. (This is non-applicable to a township and varies from State to State.)
FMVL pricing does not include return shipping costs to the leasing company, which could be located anywhere in the country. Non-appropriation clauses are permissible under certain circumstances.
Summary of FMVL:
- Sales Tax liability
- Property Tax liability
- Non-cancellable lease (must pay remaining payments with interest)
- End of lease is often a narrow window where you can notify the leasing company. Failure to do so may extend the FMVL lease for as long as one year at the same terms.
- Cost of shipping the equipment back
- No trade-in value
- 10-20% buyout at the end for ownership
Municipal Lease – $1.00 Buyout (ML)
Municipal Leases are used by municipalities to procure technology and other equipment regardless of whether the equipment depreciates rapidly or not. This structure acts to pass on ownership immediately to a tax-exempt municipality. However, it is important to mention that a Municipal Lease often requires an initial administrative cost that ranges from $750 to $3,000 depending on the bank and/or the Bond counsel. (In some cases, the bank may decide to waive some of these fees.)
Municipal Lease Benefits
- No Sales Tax
- No Property Tax
- Tax-Exempt Interest to the Funding source: usually between 3% to 4%
- $1.00 Buyout, if lease goes to maturity.
- No prepayment penalty; Principal payoff only. All future interest is forgiven if paid early.
- No shipping costs to return equipment.
- Possible trade-in value of leased equipment
- Customer may choose to hold onto equipment and extend the service contract for another year with the servicing vendor.
- Non-appropriation, non-replacement clause. Commits funds on a year-to-year basis
Picking the right size leasing or leasing tool largely depends on what kind of an organization you are. If you are a Municipality, it does not make sense to sign a True Lease – Fair Market Value Lease (FMVL). It would be costlier in the long run and less flexible. A municipality qualifies for tax-exempt status and should take advantage of the cost savings the IRS provides to the municipality and the funding source. (Note how LOW the Total Cost of both the Three Year and Four Year Options below)
A commercial for-profit entity may be attracted to an FMVL, but there are still many advantages to seeking a version of the municipal lease with a $1.00 buyout.
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