Northern Lights is trying to decide whether to lease or buy some new equipment. The equipment costs $68,000 and has a life of three years. The company has a tax rate of 21 percent, a cost of borrowed funds of 8.75 percent, and uses straight-line depreciation over the life of the equipment. What is the amount of the annual depreciation tax shield?

Question

Quizplus · Accepted Answer

The annual depreciation tax shield is calculated by taking the annual depreciation expense and multiplying it by the tax rate. The annual depreciation expense is the cost of the equipment divided by its life, which is $68,000 / 3 = $22,666.67. The depreciation tax shield is then $22,666.67 * 21% = $4,760.

Northern Lights Is Trying to Decide Whether to Lease or Buy