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Most people who buy a home and obtain mortgage financing will retain a lawyer to have their rights protected and their obligations explained.

A new piece of heavy equipment can cost more than a house, and yet equipment is usually purchased and money borrowed with very little explanation, and no legal representation. If anyone does seek legal advice respecting the transaction, it is usually after the borrower has defaulted on the agreement. By then, explaining the borrower’s rights and obligations to him is akin to closing the barn door after the horse has left.

Under B.C. law, special privileges exist for purchasers of “consumer goods”. A typical example of consumer goods is the family car, used to pick up groceries and to take the kids to soccer practice. When leasing such a vehicle, the law allows for a one day cooling off period if the consumer changes his mind. In a purchase situation, if the borrower defaults under the loan then the lender may either seize the consumer goods or sue the borrower—but it cannot do both. In other words, the lender cannot repossess the goods, sell them, and then hold the borrower liable for the difference between the loan balance and the monies received when the goods were sold. In a lease or purchase situation, lenders are obligated to disclose credit terms, including the annual interest rate being charged.

These special rights and privileges that apply to consumer goods do not apply to ordinary commercial transactions, such as the purchase or lease of heavy equipment for business purposes. Borrowers need to be wary about their rights and obligations.

Typically there are four methods used to finance equipment, namely the general security agreement, the specific security agreement, the lease, and the lease with option to purchase.

Usually it is a bank that demands a general security agreement. A general security agreement grants security over all that the borrower owns, including all the equipment that the borrower has, any land it might own, and any accounts receivable that it has. In fact, a general security agreement is so broad that it would allow the bank, upon default, to put the borrower into receivership, and either wind down the borrower’s business or sell it as a going concern.

A specific security agreement applies, as the name suggests, only to one or more specific items of property, usually equipment. If the borrower goes into default, then the lender can repossess the equipment and have it sold. After deduction of bailiff fees, sales commissions, etc., the proceeds of sale are applied to the outstanding loan balance. If the proceeds of sale are not sufficient to pay off the loan, then a deficiency exists. The lender can then sue the borrower for the deficiency. (Unlike consumer borrowing, in a commercial transaction the lender can seize and sue.)

In its purest form, an equipment lease is simply a rental agreement. Rent is paid while the equipment is being used, and once the agreement is over the equipment is returned to the owner.

Often a borrower will enter into a lease with option to purchase. Sometimes the option to purchase is contained in the lease agreement itself; sometimes it takes the form of a separate letter. Usually the buyout price is much less than what the equipment is worth, and so the borrower would be foolish not to exercise his option.

In a true lease, the lease payments are considered an expense of the lessee. The lessee does not own the equipment, and so it does not show as an asset on his financial statements. Nor is there any corresponding liability shown on the financial statements, for the unpaid lease payments.

One gets into a grey area, however, when one has a lease with an option to purchase at a low price. In those circumstances, the law may consider this lease to be not a lease at all. Instead, the arrangement is really a security agreement, and the law will consider it that way, notwithstanding any attempt to call it a “lease”.

Regardless of what the agreement is, the rights and obligations are set out on the front of the agreement and usually in the fine print on the back. (Remember the legal adage: the big print giveth, and the small print taketh away.)

I encourage people, before they enter into these sorts of agreements, to actually calculate their cost of borrowing. Often that rate is not disclosed in the document. You can have your accountant or bookkeeper calculate the rate, or use an amortization program on your computer. You might be surprised to learn just how much you are paying in interest and other charges.

I also encourage borrowers to make a review of the fine print. And, if you cannot understand those provisions, then seek some legal advice. Do this before you sign the document. It is far better to know your rights and obligations before you enter into the arrangement, then to wait until a dispute arises between you and the lender.

John Drayton is a Kamloops lawyer practicing in the area of motor transport and forestry law.