Issue link: http://read.dmtmag.com/i/376201
42 | www.cedmag.com | Construction Equipment Distribution | September 2014 Rental here, however, as we've encountered a wide range of issues, including: If the customer rents the same piece of equipment five times, is the customer entitled to apply some or all of the prior rentals (and if so, how far back?) to the purchase price, or just the current rental? What happens if the customer fails to pay timely rent for a portion of the rental term and then claims the right to apply its prior rentals to a purchase (For example, does a breach nullify the option, and if so, permanently? Or, does curing the breach revive the option?) What if the customer actually pays more in rent than the original value of the equipment (and then remembers the purchase option). Is the customer entitled to a refund upon exercise? What if the customer claims to have notified the owner of the customer's exercise of the verbal (but not written) option? If the option is properly exercised, is the customer required to pay the balance of the purchase price immediately, or is the customer entitled to some form of delayed payment plan/financing? Do the same protections for the owner/lessor that were included in the lease document apply to a sale (remember- ing that UCC Article 2 covers sales, while Article 2A covers leases)? 4. Business-Only Customers: Equipment owners/ lessors are usually well-advised to offer purchase options only to business customers, and refrain from offering them to individual (non-business) consumers. Lengthy federal and state disclosure requirements, and potential penal- ties for noncompliance, make consumer lease/purchase transactions too burdensome for most equipment rental operators. To that end, lessors are generally wise to include the following statement in any lease/purchase agreement: "The equipment is being obtained by the lessee solely for business purposes, and not for any personal, family or household use." 5. Other Possible Effects. Finally, as one might guess, purchase options can give rise to a number of other legal and financial issues, including: Lenders: If rented equipment is sold, particularly from a dedicated rental fleet, will the owner's lender object? Will the lender willingly provide the necessary lien release(s)? A quick review of your loan agreements (if any) should reveal whether your lender has agreed to permit periodic sales of equipment and provide lien releases (Note: Be sure to check both specific purchase money financing documents as well as any "blanket lien" documents). Insurance: Requiring the lessee to maintain general liability, property damage (at full replacement value) and workers' compensation insurance is the usual starting point. Sophisticated customers may want to negotiate some of the more important details such as deductibles, coverage limits or even a self-insured retention. Some may also demand that they be responsible for insuring only the actual value or buyout price of the equipment as of the date of any loss (Note: The latter is most often the case when the buyer has negotiated a specific early buyout price). Taxes: Both sales/use tax and income tax considerations should also be carefully considered. 2EYLRXVO\LQFOXGLQJDSURYLVLRQLQ\RXUUHQWDOFRQWUDFW requiring the lessee/customer to pay all sales, use, transfer, import/export, value added (particularly if equipment is going overseas), environmental and other taxes, fees, fines, imposts, duties and related charges is generally a good idea. 6HSDUDWHO\ZLWKUHVSHFWWRLQFRPHWD[HIIHFWVFKDU- acterization and "dual-use" issues (based on whether the equipment was purchased with the intention of renting or selling it) are still being worked out by the IRS, but the tax effects of characterizing equipment as either "inventory for sale" or "rental fleet" can be substantial (among other things, rental property is generally depreciable and eligible for 1031 exchanges, while inventory is not), making good planning in this area critical. One suggestion commonly being considered is using different entities (a "sales" entity, and a "rental" entity) to clarify the distinction. Conclusion: To sum it up, what seems like a simple transaction (a sale of leased equipment) turns out to be laden with very real and potentially expensive risks. Fortunately, once identified, most are relatively easy to deal with (but much more so before purchase options are granted to customers). If you offer purchase options on leased equipment, or plan to do so in the near future, now would be a good time to seek both legal and tax advice. Rent-to-own agreements and purchase options can be excellent selling tools, but don't let their apparent simplicity fool you. ("Don't Get Burned on Buyouts" continued from page 40) JAMES R. WAITE, ESQ. is a business lawyer with over 20 years in the equipment rental industry. He authored the American Rental Association's book on rental contracts, and represents equipment lessors throughout North America on a wide range of issues, including negotiating and drafting rental contracts, as well as buying, selling and financing rental companies and their equipment. He can be reached at (866) 582-2586, or by e-mail at email@example.com.