Webster's Tree Farm is considering the purchase of a backhoe costing $47,000. The backhoe can be leased for 5 years at $13,900 per year or it can be purchased at an interest rate of 7 percent.
The estimated life of the backhoe is 5 years after which time it will be worthless. The corporate tax
Rate is generally 35 percent. However, the company does not expect to owe any taxes for the next
6 years due to accumulated net operating losses. The backhoe belongs in a 20 percent CCA class.
What is the net advantage to leasing?
A) -$13,982
B) -$9,009
C) -$6,111
D) $189
E) $3,007

Question

Quizplus · Accepted Answer

First, let's calculate the present value of owning the backhoe:
PV = $47,000 + ($47,000*0.07) = $50,290
Now, let's calculate the present value of leasing the backhoe:
PV = $13,900*(1-(1+0.07)^-5)/0.07 = $59,874
Next, let's calculate the tax savings from leasing:
Tax savings = 0.35*$13,900 = $4,865
Finally, let's calculate the net advantage to leasing:
Net advantage = PV(Leasing) - PV(Owning) - Tax savings
Net advantage = $59,874 - $50,290 - $4,865 = -$13,982
Therefore, the net advantage to leasing is -$13,982. Leasing is not the best choice in this scenario. The best choice would be to purchase the backhoe since the net advantage to leasing is negative.

Webster's Tree Farm Is Considering the Purchase of a Backhoe