The lease payments on $19,900 of equipment would be $3,800 a year. The equipment has a life of six years after which it is expected to have a resale value of $2,100. Assume a lessee uses straight-line depreciation, borrows at 11.5 percent, and has a tax rate of 23 percent. What amount should be included in the Year 6 cash flows when that firm computes the NAL?

Question

Quizplus · Accepted Answer

The correct answer is A because the NAL is the after-tax cash flow. The after-tax cash flow is the cash flow minus the taxes on the cash flow. The taxes on the cash flow are the cash flow times the tax rate. The cash flow is the lease payment minus the depreciation expense plus the salvage value. The depreciation expense is the cost of the equipment divided by the life of the equipment. The salvage value is the resale value of the equipment. The lease payment is $3,800. The cost of the equipment is $19,900. The life of the equipment is 6 years. The salvage value is $2,100. The tax rate is 23%. The depreciation expense is $19,900 / 6 = $3,316.67. The cash flow is $3,800 - $3,316.67 + $2,100 = $2,583.33. The taxes on the cash flow are $2,583.33 * 23% = $590.33. The after-tax cash flow is $2,583.33 - $590.33 = $1,993. The NAL is -$1,993.

The Lease Payments on $19,900 of Equipment Would Be $3,800