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    Buy vs. Lease: evaluate the options for a $25000 car; how much would you pay to buy

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    You can buy a car for $25,000.00 and sell it in 5 years for $5,000.00. Or you can lease the car for 5 years for $5,000.00 a year. The discount rate is 12% per year.

    a. Which option fo you prefer?
    b. What is the maximum amount you should be willing to pay to lease rather than buy the car?

    Please show all work.

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    Solution Preview

    If you buy the car, the cash flow would be something like this:

    Year 0 -25,000
    Year 1 0
    Year 2 0
    Year 3 0
    Year 4 0
    Year 5 5,000

    The present value of the purchase is, then,

    PV = -25000 + 5000/1.12^5
    PV = -22162

    If you choose to lease the car, the cash flow will be something ...

    Solution Summary

    The solution displays all the calculation for lease versus buy and then computes the amount of annual payments below which one should lease rather than buy.