You work for a nuclear research laboratory that is contemplating leasing a diagnostic scanner (leasing is a very common practice with expensive, high-tech equipment). The scanner costs $3.5 million and it would be depreciated straight-line to zero over four years. Because of radiation contamination, it will actually be completely valueless in four years. You can lease it for $1,025,000 per year for four years. Assume the tax rate is 22 percent. You can borrow at 7.5 percent before taxes. What is the net advantage to leasing from your company's standpoint?
A) $46,217
B) $49,131
C) $50,776
D) $53,468
E) $54,117

Question

Quizplus · Accepted Answer

First, let's calculate the depreciation per year: 
Depreciation per year = (Cost - Salvage value) / Useful life
Depreciation per year = ($3,500,000 - $0) / 4 = $875,000

Next, we need to calculate the after-tax cost of buying the scanner:
After-tax cost of buying = Cost - (Depreciation per year x (1 - Tax rate))
After-tax cost of buying = $3,500,000 - ($875,000 x 0.78) = $2,862,500

Now we need to calculate the net advantage to leasing: 
Net advantage to leasing = (After-tax cost of leasing - After-tax cost of buying) / (1 + Borrowing rate)
Net advantage to leasing = (($1,025,000 x 0.78) - $2,862,500) / (1 + 0.075)
Net advantage to leasing = $1,364,500 / 1.075 = $1,268,163

Therefore, the net advantage to leasing is $1,268,163. Since this is a positive number, leasing is the best choice. The answer is C.

You Work for a Nuclear Research Laboratory That Is Contemplating