Leases and balloons: your questions answered

Lenders publish maximum residual or balloon percentages that fall as the term lengthens, because the asset is worth less at the end of a longer term. For a vehicle, a common pattern is up to roughly 50% on a two-year term, reducing to around 20% to 30% on a five-year term. The ATO also sets minimum residual values for finance leases. A larger balloon lowers monthly repayments but increases total interest and leaves a lump sum to deal with at the end.

An operating lease suits assets you want to use but not own — typically technology that dates quickly, or equipment you replace on a fixed cycle. The financier retains ownership and residual risk, you pay for use over the term and hand the asset back at the end, often with fair wear and tear and usage conditions attached. It keeps replacement predictable, but you build no equity, and exceeding the agreed usage can trigger additional charges.

It is far less common than it once was. Under hire purchase the financier owns the asset and you hire it, with ownership transferring automatically after the final instalment. Since the GST changes that made chattel mortgage more attractive for businesses accounting on a cash basis, most equipment lending is written as a chattel mortgage or lease instead. Some lenders still offer commercial hire purchase, and your accountant can advise whether it suits your circumstances.

A balloon is a lump sum left to pay at the end of a chattel mortgage, which lowers the regular repayments during the term. For example, a 30 per cent balloon on a $100,000 vehicle leaves $30,000 to pay at the end, so the monthly amount is calculated on $70,000 plus interest on the full balance. Balloons are commonly set between 0 and 40 per cent depending on the asset and term, and at the end you can pay it out, refinance it or sell the asset to clear it. A balloon reduces monthly cost but increases total interest, so your broker shows both figures side by side.

Under a finance lease the lender buys the equipment and leases it to your business for a fixed term at fixed monthly payments, with a residual value set at the start. You use the asset as if you owned it, and at the end of the term you pay the residual, refinance it, or sell the asset to a third party and settle the residual from the proceeds. Terms commonly run 12 to 60 months. Because the lender owns the asset during the term, it suits businesses that refresh equipment regularly and prefer rental-style payments.

With a finance lease you take on most of the risks and rewards of ownership: you are responsible for the residual value at the end, and you can end up owning the asset. With an operating lease you simply rent the asset for a term and hand it back, and the lessor carries the residual risk. Operating leases usually cost more per month but remove the end-of-term exposure, and often bundle maintenance. Finance leases suit assets that hold value; operating leases suit technology and vehicles that are replaced on a cycle.

The residual value is the amount left owing at the end of a finance lease, set at the start based on what the asset is expected to be worth. A higher residual lowers the monthly payment but leaves more to pay or refinance at the end. In Australia the ATO publishes minimum residual percentages by lease term, which lenders follow, typically from around 65 per cent of cost on a one-year lease down to about 28 per cent on a five-year lease. Your broker explains the residual on each quote and what your options are when it falls due.

At the end of the term you settle the residual value. Most businesses do one of three things: pay the residual and take ownership, refinance the residual into a new agreement, or sell the asset and use the proceeds to pay the residual, keeping any surplus. If the sale price is below the residual, you make up the shortfall. Some lenders also allow the lease to be extended. Plan the exit early, because a well-maintained asset sold at the right time can make the final step cost very little.

Usually yes, but there is a cost. Ending a finance lease early means paying out the remaining rentals, often at a discount, plus the residual value, and some lenders add an early termination fee. Upgrading is more common: the lender pays out the existing lease and rolls any shortfall into a new lease on the replacement asset. If you expect to change equipment before the term ends, tell your broker, because lease terms and residuals can be structured to make that cheaper.

You are. Under a finance lease the business using the asset is responsible for insuring it, maintaining it and meeting any registration or compliance costs, even though the lender holds legal ownership during the term. Lenders require comprehensive insurance with their interest noted and may ask for evidence each year. This is different from a fully maintained operating lease, where servicing and sometimes insurance are bundled into the payment.

A balloon lowers the regular repayment by leaving a lump sum to pay at the end of the term, commonly 20 to 40 per cent of the price on a vehicle. It suits businesses that will sell or trade the vehicle at the end and use the proceeds to clear the balloon, or that want lower repayments now. It costs more in total interest, and if the vehicle is worth less than the balloon at the end you make up the difference. Your broker shows the repayment and total cost with and without a balloon.

Often, yes, where the vehicles are replaced on a set cycle. Setting the balloon close to the expected resale value keeps repayments low and means the sale of each vehicle at replacement time clears most of what is owed. Vehicles kept for their full life suit a lower balloon or none. Your broker aligns the balloon and term to your replacement cycle for each vehicle class.

It depends on the plan for the truck. A balloon of 20 to 40 per cent lowers the monthly repayment, which helps when a contract is starting and cash is tight, and suits operators who trade the truck every few years while it still has resale value. Operators who run trucks for their full life usually prefer a small or no balloon so there is nothing to refinance at the end. Your broker matches the balloon to the truck’s expected value at the end of the term.

Yes. Because trailers retain value well, balloons of up to 30 or 40 per cent are common on new trailers and keep the monthly cost down. Operators who keep trailers for their full life often choose a lower balloon. At the end of the term the balloon can be paid out, refinanced or cleared by selling the trailer. Your broker shows the repayment and total cost for each option.

A balloon of 20 to 40 per cent is common on machinery with strong resale value, such as excavators and loaders, because it lowers the monthly repayment and the machine can be sold or traded to clear the balloon at the end. Production machinery that will stay in the factory for its full life usually suits a low or zero balloon. Your broker sets the balloon against the machine’s expected value at the end of the term.

Buy with a chattel mortgage when the equipment will serve the practice for years and you want to own and depreciate it, such as dental chairs or sterilisers. Lease when the technology moves quickly and you expect to upgrade, such as imaging, lasers or IT, because a lease with a residual makes the upgrade cycle simpler. Your accountant advises on the tax outcome for your practice entity, and your broker structures either option.

Lease when the equipment will be refreshed in three to four years, which is most laptops, workstations and networking, because a lease with a low residual keeps the monthly cost down and makes the refresh simple, with some lenders taking back and disposing of the old fleet. Buy with a chattel mortgage when the equipment has a long life, such as servers you will run for five years or solar systems that last decades. Your accountant advises on the tax outcome for each.

Headers, tractors and self-propelled machinery hold value well, so a balloon of 20 to 40 per cent is common and keeps the annual repayment down, with the machine traded to clear the balloon at the end. Implements and irrigation infrastructure that stay on the farm for their full life suit a low or zero balloon. Your broker sets the balloon against the machine’s expected value and your replacement plan.

Under an operating lease you rent the equipment for a fixed term at a fixed monthly payment and hand it back at the end. The lessor owns the asset, carries the resale risk and often bundles maintenance, servicing and sometimes insurance into the payment. There is no residual to pay and nothing to sell. It suits equipment you replace on a cycle, such as vehicles, IT, medical technology, forklifts and production or events gear, where predictability matters more than ownership.

With an operating lease the lessor keeps the residual risk: you return the asset and walk away. With a finance lease you are responsible for the residual value at the end and usually end up owning or selling the asset. Operating lease payments are typically higher per month because the lessor carries that risk, but they include no end-of-term exposure and often include maintenance. Finance leases suit assets that hold value; operating leases suit assets you want to cycle.

You return the equipment in fair condition, allowing for normal wear and tear, and the lease ends. Most lessors offer three choices: return it and take new equipment on a fresh lease, extend the lease month to month or for a further term, or in some cases buy the asset at its market value. Excess wear, damage or, for vehicles, excess kilometres can attract charges, which is why the fair wear and tear terms are worth reading before you sign.

Usually with a cost. Ending early means paying out the remaining rentals, sometimes at a discount, and returning the asset. Upgrading is often easier: the lessor terminates the old lease and starts a new one on the replacement equipment, rolling any early termination cost into it. Businesses that expect to upgrade before the end should choose a shorter term or a lessor with flexible upgrade terms, which your broker can identify.

Under a commercial hire purchase the lender buys the asset and hires it to you for a fixed term at fixed repayments; ownership passes to you automatically when the final payment, including any balloon, is made. In use it feels much like a chattel mortgage, with the same terms, balloons and asset types, but the legal ownership sits with the lender until the end. It is available for vehicles, machinery and most business equipment.

The main difference is when you own the asset and how GST is treated. With a chattel mortgage you own the asset from day one and can usually claim the GST on the purchase price on your next BAS. With hire purchase the lender owns it until the final payment, and since 2012 GST applies to the whole hire purchase amount, which can be claimed upfront by businesses on an accruals basis. Interest and depreciation are treated similarly. For most businesses today a chattel mortgage is simpler, but some lenders and accountants prefer hire purchase for specific situations.

Yes. Balloons of up to 30 to 40 per cent are common on vehicles and machinery with strong resale value, reducing the monthly repayment and leaving a final amount to pay, refinance or clear by selling the asset. Because ownership passes at the final payment, the balloon must be paid before you own the asset outright. Your broker shows the repayment and total cost with and without a balloon.

Yes. You can pay out the agreement early and take ownership, and the lender quotes a payout figure on request. Because interest is fixed, an early termination fee or part of the remaining interest usually applies, so the saving is smaller than the full remaining interest. Your broker explains each lender’s early payout terms before you choose.

A residual value, set by ATO minimum percentages according to the lease term, remains at the end. You can pay it and keep the car, refinance it into a new lease, or sell the car and use the proceeds to pay the residual, keeping any surplus. Many people trade up to a new car on a fresh novated lease at that point. Your broker explains the residual on each quote and what the options are when it falls due.

A balloon lowers your monthly repayment by leaving a lump sum to pay at the end, commonly 20 to 30 per cent of the car’s price. It suits people who plan to sell or trade the car at the end of the term and use the proceeds to clear the balloon. It costs more in total interest, and if the car is worth less than the balloon at the end you make up the difference. Your broker shows the repayment and total cost with and without a balloon so you can decide.

Boats, caravans and jet skis can lose value faster than cars, particularly in the first few years, so lenders are careful that the loan balance does not sit above the asset’s value for too long. That influences the maximum term, whether a deposit is asked for and how large a balloon they will allow. A modest deposit and a term that matches how long you will keep the asset keeps you ahead of the depreciation curve, which your broker explains for the specific asset.

A balloon of 20 to 35 per cent is common on a work ute and lowers the monthly repayment, with the ute traded or sold at the end of the term to clear it. Utes hold their value well in Australia, so a moderate balloon is usually safe. If you plan to run the ute for eight years or more, a low or zero balloon avoids refinancing later. Your broker shows the repayment and total cost with and without a balloon.

Because EV resale values have moved quickly as new models arrive and prices change, lenders are more conservative with balloons on electric vehicles than on utes, often capping them at a lower percentage or requiring a shorter term. A modest balloon and a term matched to how long you will keep the car protects you from owing more than the car is worth. Your broker shows the repayment with and without a balloon.

Balloons of 30 to 40 per cent over three to five years are common on prestige cars from strong brands with predictable resale values, which keeps monthly repayments manageable. Lenders reduce balloons on models with softer residuals, on very high-value cars and on longer terms. The aim is a balloon comfortably under the car’s expected trade-in value so you have options at the end.

A balloon of 20 to 30 per cent on a new loader lowers the monthly repayment and sits comfortably under the machine’s resale value after five years. It suits businesses that trade machines regularly. If you plan to run the loader for its whole life, a lower balloon or none avoids a lump sum at the end. Your broker shows both repayments so you can choose.

Balloons of 20 to 30 per cent over four to five years are common on new prime movers from strong brands, keeping the monthly repayment in line with the truck’s earnings. High-kilometre linehaul work argues for a lower balloon because the truck depreciates faster. Your broker shows the repayment with and without a balloon.

Some lenders offer balloons of up to 30 per cent on new boats to lower the monthly repayment, with the balloon paid, refinanced or covered by selling the boat at the end. A balloon costs more in total interest, so it suits buyers who expect to upgrade. Your broker shows both repayments.