Question
Mary's is considering either purchasing or leasing a $325,000 piece of specialized equipment. The specialized equipment has a life of 4 years, belongs in a
Mary's is considering either purchasing or leasing a $325,000 piece of specialized equipment. The specialized equipment has a life of 4 years, belongs in a 20% CCA class, and will have no residual value. The cost of debt is 9% for this purchase. A lease on the equipment for 4 years is priced at $100,000 a year. Mary's corporate tax rate is 40%. The lessor has a tax rate of 35%.
a. What is Mary's break-even lease payment amount?
b. What is the amount of annual depreciation Mary's can claim in the first year if the firm purchases the equipment?
c. What is the net advantage to leasing for Mary's? Should they lease or buy?
d. Will the decision to lease or buy change for Mary's if they had a tax rate of 10% instead?
e. What is the net advantage to leasing for the lessor?
f. In a leasing arrangement, the cash flows to the lessor are exactly the opposite of the cash flows to the lessee. It would therefore appear that leasing is a zero-sum game where one party benefits at the expense of the other. Given this possibility, why should we expect leasing to occur?
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