1) Agents Healthcare is negotiating a lease on a new MRI that would cost $156,00
ID: 2806485 • Letter: 1
Question
1) Agents Healthcare is negotiating a lease on a new MRI that would cost $156,000 if purchased. The equipment falls into MACRS 3 year property class, and it would be used for 4 years and then sold. It is estimated that the MRI could be sold for $28,500 after 4 years of use. A maintenance contract on the equipment would cost $4,400 per year Conversely, Agents could lease the equipment for 4 years for a lease payment of $46,000 per year, payable at the beginning of each year. Agents is in the 40% tax bracket, and would obtain a loan to purchase the MRI at a before tax interest rate of 8%. Calculate the Net Advantage of Leasing and recommend if Agents should purchase or lease the MRI.Explanation / Answer
Step 1 Calculation of Net present value of Purchasing option Year 0 1 2 3 4 NPV Purchase cost of new MRI -$156,000.00 Salvage value of new MRI $28,500.00 Tax on salvage value -$11,400.00 Maintenance cost -$4,400.00 -$4,400.00 -$4,400.00 -$4,400.00 Tax saving on Maintenance cost $1,760.00 $1,760.00 $1,760.00 $1,760.00 Tax Shield due to depreciation $20,797.92 $27,736.80 $9,241.44 $4,623.84 Net Cash flow -$156,000.00 $18,157.92 $25,096.80 $6,601.44 $19,083.84 Discount factor @ 4.80% 1 0.95420 0.91049 0.86879 0.82900 Present Values -$156,000.00 $17,326.26 $22,850.50 $5,735.28 $15,820.52 -$94,267.44 After tax interest rate = Interest rate * (1-tax rate) = 8% * (1-0.40) = 4.80% Calculation of depreciation using MACRS 3 year property and tax shield Year Cost of New MRI Depreciation rate Depreciation Tax shield @ 40% 1 $156,000.00 33.33% $51,994.80 $20,797.92 2 $156,000.00 44.45% $69,342.00 $27,736.80 3 $156,000.00 14.81% $23,103.60 $9,241.44 4 $156,000.00 7.41% $11,559.60 $4,623.84 Step 2 Calculation of net present value of leasing option Year 0 1 2 3 4 NPV Lease payments -$46,000.00 -$46,000.00 -$46,000.00 -$46,000.00 $0.00 Tax shield on lease payment $18,400.00 $18,400.00 $18,400.00 $18,400.00 $0.00 Net Cash flow -$27,600.00 -$27,600.00 -$27,600.00 -$27,600.00 $0.00 Discount factor @ 4.80% 1 0.95420 0.91049 0.86879 0.82900 Present Values -$27,600.00 -$26,335.88 -$25,129.65 -$23,978.68 $0.00 -$103,044.21 Net advantage of leasing = NPV of leasing option - NPV of purchasing option = -$103044.21 - (-$94267.44) = -$8776.77 It is recommended that Agents should not lease the MRI as net advantage of leasing is negative.
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