Explore BrainMass
Share

Lease or Buy After Tax Decisions

This content was STOLEN from BrainMass.com - View the original, and get the already-completed solution here!

Our company is considering leasing a diagnostic scanner. The scanner costs $2.5 million and qualifies for a 30 percent CCA rate. Because of radiation contamination, it is valueless in four years. We can lease it for $800,000 per year for 4 years.

Question 1. Assume the tax rate is 37%. You can borrow at 7.5% pretax. Should you buy or lease?

Question 2. What are the cash flows from the lease from the lessor's point of view? (assume 37% tax bracket)

Question 3. What would the lease payment have to be for both lessor and lessee to be indifferent about the lease? (Break-even lease)

© BrainMass Inc. brainmass.com October 17, 2018, 12:46 am ad1c9bdddf
https://brainmass.com/business/leasing/lease-buy-after-tax-decisions-309784

Solution Preview

Lease or Buy
Our company is considering leasing a diagnostic scanner. The scanner costs $2.5 million and qualifies for a 30 percent CCA rate. Because of radiation contamination, it is valueless in four years. We can lease it for $800,000 per year for 4 years.

Question 1. Assume the tax rate is 37%. You can borrow at 7.5% pretax. Should you buy or lease?

We will calculate cash flows from the depreciation tax shield first. The depreciation tax shield is:

Depreciation tax shield = ($2,500,000/4)(.37) = $231,250

The aftertax cost of ...

Solution Summary

The expert examines lease or buy after tax decision. The cash flows from the lease and lessor's point of view are determined.

$2.19
Similar Posting

Lease vs. Purchase Decision

JSC Corporation is attempting to determine whether to lease or purchase research equipment. The firm is in the 30% tax bracket, and its after-tax cost of debt is currently 7%. The terms of the lease and the purchase are as follows:
Lease Scenario: Annual end-of-year lease payments of $25,200 are required over the 3-year life of the lease. All maintenance costs will be paid by the lessor; insurance and other costs will be borne by the lessee. The lessee will exercise its option to purchase the asset for $5,000 at termination of the lease.

Purchase Scenario: The research equipment, costing $60,000, can be financed entirely with a 14% loan requiring annual end-of-year payments of $25,844 for 3 years. The firm in this case will depreciate the asset under MACRS using a 3-year recovery period. The firm will pay $1,800 per year for a service contract that covers all maintenance costs; insurance and other costs will be borne by the firm. The firm plans to keep the equipment and use it beyond its 3-year recovery period.

a) Calculate the after-tax cash outflows associated with each alternative.
b) Calculate the present value of each cash outflow stream using the after-tax cost of debt.
c) Which alternative, lease or purchase, would you recommend? Why?

View Full Posting Details