# Equal Tax Rates

### Pages to are hidden for

"Equal Tax Rates"

```					                                                Equal Tax Rates

Leasing Problem:
You have decided to acquire a network computer system.
You must choose to either lease it or buy it.
The cash flows associated with buying and leasing are given below.
The available lease is an operating lease in which the lessor absorbs both depreciation and
maintenance expense.

Cost of Machine              \$ 100,000                                MACRS 5-year Property Class:
Maintenance                  \$ 10,000 per year
Salvage Value                \$ 10,000                                     Year       Allowance
Lease Payment                \$ 34,500 per year                             1                 20%
Machine Life                          5 years                              2                 32%
Depreciation Method             MACRS                                      3              19.20%
Before-tax Cost of Debt            10%                                     4              11.52%
Tax Rate                           34%                                     5              11.52%
6               5.76%

100%
Cash Flows from Lessee's Perspective:

Year              0            1            2              3            4              5

Purchase Price               \$ 100,000
Salvage Value (after-tax)                                                                               (8,558)
Depreciation Tax Shield                        (6,800)   (10,880)    (6,528)    (3,917)                 (3,917)
Maintenance (after-tax)                         6,600      6,600      6,600      6,600                   6,600
Lease Payment (after-tax)                     (22,770)   (22,770)   (22,770)   (22,770)                (22,770)
Total Cash Flow            \$ 100,000      \$ (22,970) \$ (27,050) \$ (22,698) \$ (20,087) \$              (28,645)

Present Value              \$ 100,000      \$ (21,548) \$ (23,804) \$ (18,738) \$ (15,555) \$              (20,810)

NAL = \$        (455)

Cash Flows from Lessor's Perspective:

Year              0            1            2              3            4              5

Purchase Price               \$ (100,000)
Salvage Value (after-tax)                                                                        \$      8,558
Depreciation Tax Shield                         6,800        10,880        6,528          3,917         3,917
Maintenance (after-tax)                        (6,600)       (6,600)      (6,600)        (6,600)       (6,600)
Lease Payment (after-tax)                      22,770        22,770       22,770         22,770        22,770
Total Cash Flow            \$ (100,000) \$     22,970 \$      27,050 \$     22,698 \$       20,087 \$      28,645

Present Value              \$ (100,000) \$     21,548    \$   23,804   \$   18,738     \$   15,555    \$   20,810

NAL = \$         455

Page 1
Lessee No Tax

Cost of Machine              \$ 100,000
Maintenance                  \$ 10,000
Salvage Value                \$ 10,000
Lease Payment                \$ 34,500
Machine Life                          5 years
Depreciation Method             MACRS
Before-tax Cost of Debt            10%
Tax Rate                            0%

Cash Flows from Lessee's Perspective: (If the Lessee Pays no tax)

Year            0            1            2            3            4           5

Purchase Price               \$ 100,000
Salvage Value (after-tax)                                                               (10,000)
Depreciation Tax Shield                         -          -          -          -          -
Maintenance (after-tax)                      10,000     10,000     10,000     10,000     10,000
Lease Payment (after-tax)                   (34,500)   (34,500)   (34,500)   (34,500)   (34,500)
Total Cash Flow            \$ 100,000    \$ (24,500) \$ (24,500) \$ (24,500) \$ (24,500) \$ (34,500)

Present Value              \$ 100,000    \$ (22,273) \$ (20,248) \$ (18,407) \$ (16,734) \$ (21,422)

NAL = \$         917

Cash Flows from Lessee's Perspective: (Lessee Pays no tax and realizes only \$5,000 pre-tax salvage)

Year            0            1            2            3            4           5

Purchase Price               \$ 100,000
Salvage Value (after-tax)                                                                (5,000)
Depreciation Tax Shield                         -          -          -          -          -
Maintenance (after-tax)                      10,000     10,000     10,000     10,000     10,000
Lease Payment (after-tax)                   (34,500)   (34,500)   (34,500)   (34,500)   (34,500)
Total Cash Flow            \$ 100,000    \$ (24,500) \$ (24,500) \$ (24,500) \$ (24,500) \$ (29,500)

Present Value              \$ 100,000    \$ (22,273) \$ (20,248) \$ (18,407) \$ (16,734) \$ (18,317)

NAL = \$       4,021

Page 2
SL Depreciation

Leasing Problem:

Cost of Machine              \$ 100,000
Maintenance                  \$ 10,000
Salvage Value                \$ 10,000
Residual Book Value          \$     -
Lease Payment                \$ 34,500
Machine Life                          5 years
Depreciation Method                  SL
Before-tax Cost of Debt            10%
Tax Rate                           34%

Cash Flows from Lessee's Perspective: (using Straight Line Depreciation)

Year            0             1             2        3       4          5

Purchase Price               \$ 100,000
Salvage Value (after-tax)                                                                (6,600)
Depreciation Tax Shield                      (6,800)    (6,800)    (6,800)    (6,800)    (6,800)
Maintenance (after-tax)                       6,600      6,600      6,600      6,600      6,600
Lease Payment (after-tax)                   (22,770)   (22,770)   (22,770)   (22,770)   (22,770)
Total Cash Flow            \$ 100,000    \$ (22,970) \$ (22,970) \$ (22,970) \$ (22,970) \$ (29,570)

Present Value              \$ 100,000    \$ (21,548) \$ (20,214) \$ (18,962) \$ (17,788) \$ (21,482)

NAL = \$           6

Before-tax Lease Payment           NAL
6
30,000       12,316
30,500       10,948
31,000        9,580
31,500        8,213
32,000        6,845
32,500        5,477
33,000        4,109
33,500        2,742
34,000        1,374
34,500            6
35,000       (1,361)
35,500       (2,729)
36,000       (4,097)
36,500       (5,464)
37,000       (6,832)
37,500       (8,200)

Page 3

```
DOCUMENT INFO
Shared By:
Categories:
Stats:
 views: 8 posted: 6/9/2010 language: English pages: 3