A majority of businesses have equipment rental or lease arrangements in place for cashflow or other reasons. If you are planning to sell your business, the leased equipment will be separate from the equipment that you own outright. Before selling your business, you should make the buyer aware of these two categories. Further, the purchase price should reflect the fact that you do not own it outright. Simply not discussing the leased equipment with a potential buyer will cause issues to arise later in the process.  This article will discuss:

  • the types of leasing agreements;
  • options for dealing with leased equipment;
  • how to transfer a leased equipment agreement; and
  • the termination of a leased equipment agreement.

Types of Leasing Arrangements

There are various types of rental agreements that cover the needs of every business owner. Though every agreement will be different, the main difference between each agreement is when you are able to purchase the equipment. It could be:

  • outright;
  • during; or
  • the end of the term lease.

Leasing arrangements can also be for a fixed or continuing term. This will affect the transfer process when selling your business. You should discuss the terms of the leasing arrangement with the buyer as they may think that they can own all the equipment, when that may not be an option.

For example, if your leasing arrangement is for a fixed term, but you decide to sell your business before the term ends, you must discuss this with any potential buyers to prevent significant issues from arising.

You may also enter into a finance arrangement with a bank or financial institution. In this scenario, you will become the owner of the equipment, but will not be sble to transfer it. This is due to ongoing payment obligations. You will need the consent of the lessor to transfer any of the equipment to the buyer. A lessor is the bank or a financial institution.

PPSR / Securities 

As a business owner, you may want to rent or finance the equipment. In either situation, the lessor will lodge a security interest against you on the Personal Property Securities Registry (PPSR). The PPSR is a place where lessors and others can show that someone has rented or financed equipment that has ongoing payment obligations. This registration makes it easier for the lessor to take back the equipment if you breach the agreement and stop making payments to them. This registration is also known as an encumbrance. 

Why Does It Matter?

Understanding the type of equipment lease you have is important. You should understand how the buyer will handle the equipment lease when it ends. Your equipment lease may be:

  • transferred; 
  • bought out; or 
  • terminated.

If the sale contract does not properly reflect the arrangement you have decided, you may be at risk of breaching your contract with the buyer. Your arrangement with the equipment provider may also be at risk of breach. Almost all sale contracts will state that all equipment will need to be transferred without any encumbrances. This means that you must own all the equipment outright, without a lessor or financial institution having a PPSR registration. The buyer may argue that the sale price should be reduced according to the actual value of the rented equipment  if there is not a section in the sale contract that states that the: 

  • equipment is leased (with appropriate details) and; 
  • the buyer is not aware that the equipment is leased.

As a result, it is important to understand the type of equipment lease you have to avoid potentially breaching your contract with the buyer and your arrangement with the equipment provider.

Two Options for Dealing with Leased Equipment

Paying out the contract 

You may seek to pay out the equipment lease if the lessor allows for it. If the lessor allows a pay out, your cash flow may determine the timing. The two available options include:

  1. payout equipment lease prior to completion; or 
  2. payout equipment lease at completion with the purchase price funds. 

If you are able to payout the equipment lease prior to completion, it is likely the contract will include all the equipment and there will be no encumbrances. This option will allow you to have all encumbrances removed at completion. Under the second option, the buyer will direct this payout amount directly to the equipment lessor and pay you the balance of the purchase price at completion. Here, the buyer will require a letter from the lessor that they will remove the encumbrance after they settle the payout amount.  

The process of paying out the contract includes: 

  1. notifying the equipment lessor of your plan to pay out the equipment lease;
  2. confirming with the lessor that they will need to remove the PPSR registration after you have paid out the equipment lease;
  3. paying out the equipment lease; 
  4. requesting a letter from the lessor confirming that they have paid out the equipment lease and that they will remove the PPSR registration; and
  5. conducting a PPSR search to confirm that the PPSR registration has been removed.

The order may change depending on the timing of paying out the equipment lease.

Transferring the Equipment Lease 

It is important to start the process of transferring the equipment lease early as it is a timely process. As required by the lessor, the buyer will need to provide certain documents as evidence of their financial standing and business experience. Therefore, once the lessor approves the buyer’s application, the lessor will: 

  • update the terms in the existing agreement; or
  • transfer the current agreement to the buyer

This process of transferring the equipment lease is known as the effect of an assignment or novation. An assignment and a novation can be used to create changes in rights and obligations under a contract, in your business.

The process of transferring the equipment lease includes:

  1. communicating to the equipment lessor that you wish to transfer the agreement to the buyer;
  2. the buyer providing all documents and information requested from the equipment lessor; 
  3. entering an agreement to transfer the agreement to the buyer if the buyer is approved; and
  4. having the sale contract to permit the encumbrance regarding the leased equipment at completion.

Terminating the Equipment Lease

You may seek to terminate the equipment lease where the lessor refuses to: 

  • transfer the equipment lease to the buyer; or 
  • allow a buyout.

In this situation, the buyer will need to look elsewhere for this equipment. This may be costly as the contract could include a fee for terminating. As a general rule, this fee will be deemed a penalty and will not be enforceable if it is not a ‘genuine pre-estimate of loss’ by the lessor. The fee will not be regarded as a ‘genuine pre-estimate of loss” if it is beyond the buyer’s expected loss.

When transferring or terminating an equipment lease or a hire to purchase agreement, it is important that your obligations are terminated. This is sometimes done through a document called a Deed of Termination. This is especially important if you have signed as a personal guarantor as you’ll need to be removed as a guarantor from any future obligations in respect of the equipment. Your lawyer can help you to enter into the right documentation to make sure that your ongoing obligations are terminated.

Seeking to terminate your equipment lease, can be difficult. Therefore, there are five tips you should keep in mind when terminating. These include: 

  1. speaking early with the purchaser; 
  2. creating a plan; 
  3. speaking with the equipment lessor to get consent; 
  4. drafting the contract accordingly by engaging your lawyer; and 
  5. signing the appropriate documentation. 

Key Takeaways

If you are looking to sell your business with leased equipment, there are many factors to be aware of before finalising the sale, including: 

  • the type of leasing arrangement you have entered into; and
  • how the agreement will be handled when it ends. 

It is especially important to discuss the difference between the equipment leased and the equipment you own outright with the buyer, so as to prevent future issues arising. If you have any questions about how to sell your business with leased equipment, contact LegalVision’s business sale and purchase lawyers on 1300 544 755 or fill out the form on this page.

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