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Reports:
Glossary Of Input Assumptions
(in the order in which they occur in the input window)
You may notice in general that the results of the lease vs buy analysis are somewhat dependent upon the month in which the lease commences. This is because the first year's tax benefits are realized with less delay, and therefore have a relatively greater present value, for leases commencing later in the tax year. For example, if the lease commences in May, then the first year's tax benefits are realized over the first 8 months of the lease. By contrast, if the lease commences in September, then the first year's tax benefits are realized over the first 4 months of the lease. Select the year corresponding to the lease commencement.
Depreciable life for tax purposes
Select the depreciable life for this particular asset. MACRS stands for Modified Accelerated Cost Recovery System, and is the depreciation method currently used for IRS tax purposes for most assets. This lease vs buy analyzer includes the standard 3, 5, 7, 10, and 20 year MACRS classes.150% declining balance methods are also provided for 5, 7, and 10 year lives.
Also, two CCA methods (Capital Cost Allowance) are supported for Canadian taxation. Class 8 corresponds to 20% declining balance, and Class 10 corresponds to 30% declining balance calculations. For simplicity, the CCA calculations are carried out for 10 years in the analysis, and any remaining depreciable balance is claimed in the final year.
First year depreciation convention
Under MACRS, the amount of depreciation available in the first year is determined according to one of two different conventions provided by the IRS.The first year convention used most often is the Half Year Convention. Under this convention, the amount of depreciation accorded to the first year is calculated as though the property were placed into service at the exact midpoint of the year. This is true regardless of the actual date the asset is placed into service.
The Mid Quarter Convention generally applies in circumstances where the property placed into service by the taxpayer during the last 3 months of the tax year exceeds 40% of the total property placed into service during the entire year. Note that the detemination of whether the Mid Quarter Convention applies is made with respect to all property placed into service by the taxpayer, not just the specific asset in question. Under the Mid Quarter Convention, the amount of depreciation accorded to the first year is calculated as though the property were placed in service at the exact midpoint of the quarter in which it is actually placed into service.
Special first year bonus depreciation
According to the Job Creation And Worker Assistance Act Of 2002, a special "bonus" depreciation amount equal to 30% of asset cost is available in the year the asset is acquired. The remaining basis (i.e. 70% of the asset cost) is depreciated using normal rules. Note that the popular terminology of referring to this as "bonus" depreciation is somewhat misleading, since it is really an acceleration of the depreciation rather than an actual increase in the total depreciation over the life of the asset.Note that if the lessee is assumed to purchase the asset at the end of the lease term, then the depreciation of the used asset does not include any bonus depreciation, as this element is scheduled to be phased out after 3 years under current tax law.
You can select whether or not the analysis should assume that the lessee will purchase the asset at the end of the lease term. In either case, the lease vs buy analysis always maintains an "apples to apples" comparison with respect to the handling of the end of the lease term.
Therefore if it is assumed that the lessee purchases the asset at the end of the lease term, then the lease case includes depreciation of the used asset, and the buy case does not include any sale of the asset at the end of the term. I.e., in both the lease case and the buy case the lessee ends up with permanent ownership of the asset.
On the other hand if it is assumed that the lessee does not purchase the asset at the end of the lease term, then the buy case includes the sale of the asset at the end of the term. I.e., in both the lease case and the buy case the lessee has use of the asset only for the duration of the lease term.
If the lessee expects to purchase the asset at the end of the lease term, you should enter the expected fair market value purchase price and/or the purchase option amount.
If the lessee does not expect to purchase the asset at the end of the lease term, and therefore the buy case assumes a sale of the asset at the end of the term, you should enter the expected fair market value selling price. Optionally, you may wish to also enter the amount of any expected administrative costs associated with the sale. All of the fees and deposits in this section are optional.
The security deposit is an amount paid by the lessee at the inception of the lease, and returned to the lessee at the end of the lease. Therefore, you may notice that the impact of the security deposit on the total cashflows is zero. However the impact on the present value analysis is non-zero, since the payment of the security deposit has a greater present value than the return of the deposit.
You may also input any other miscellaneous fees or expenses paid in the lease and/or the buy case. These can include miscellaneous local taxes or other expenses. Upfront fees are amortized for tax purposes over the term of the lease. Recurring periodic expenses occur throughout the term of the lease. For example, there might be an annual expense payable in January of each year.
If the lessee expects to purchase the asset at the end of the lease term, no further recurring expenses are assumed beyond that point in time. This is because any expenses beyond that point in time would be identical in both the lease and buy cases, and would therefore not impact the comparative analysis. Select either monthly, quarterly, semi-annual, or annual for the frequency of the lease rental payments.
Number of rent payments paid at lease commencement
There are several choices for the manner in which rent payments are made at the commencement of the lease.In the case of "standard arrears rents", each payment is made at the end of its respective period. For example, if rents are paid quarterly, then each rent is paid at the end of the quarter. Therefore in this case no rents are paid at the commencement of the lease.
In the case of "standard advance rents", each payment is made at the beginning of its respective period. For example, if rents are paid quarterly, then each rent is paid at the beginning of the quarter. Therefore in this case one rent payment is paid at the commencement of the lease.
The case of "first and last rents paid at commencement" is similar to standard advance rents, except that the last rent is also prepaid at lease commencement. For example, if rents are paid quarterly, then 2 rent payments are made at lease commencement, and the remaining rent payments are made quarterly thereafter.
The case of "first and last 2 rents paid at commencement" is similar to standard advance rents, except that the last 2 rents are also prepaid at lease commencement. For example, if rents are paid quarterly, then a total of 3 rent payments are made at lease commencement, and the remaining rent payments are made quarterly thereafter.
The schedule of rents allows up to 5 different stepped payment levels.
Example 1. For a simple lease with 60 monthly payments, each of the same dollar amount, simply fill in the first row of the rent schedule.
Example 2. For a 60 month lease where the first 30 payments are at one dollar amount, and the last 30 payments are at a different dollar amount, you would fill in the first 2 rows of the rent schedule.
Note that the rent schedule should show the nominal schedule of rents, before taking into account any special advance payments. For example, suppose the lease is nominally 60 monthly payments of $1000 each, but the payments are to be "first and last 2 rents in advance" (see above). So the actual cash payments will end up being 1 payment of $3000, followed by 57 payments of $1000 each. In this case the rent schedule should be filled in with the nominal schedule showing 60 payments of $1000 each. The debt rate should be entered in the usual way, as a nominal pretax percentage rate. For example, you would enter 8.25% not 0.0825
The ROI (return on investment) rate or the ROE (return on equity) rate should be entered as an after-tax rate. This is the rate that will be used to discount the after-tax cashflows in determining present values.
The proper choice of discount rate is partly related to the amount of debt you choose to include in the Buy case. If you are using the Equivalent Loan method (see below), or any method that explicitly includes some debt in the Buy case, then the ROI discount rate is generally chosen to represent an equity rate or investment hurdle rate. If you are using the No Loan method, then you may wish to use an ROI discount rate that partially reflects the cost of debt, i.e. either an after-tax debt rate or a blended rate.
Amount of debt to include in the Buy case
The Buy case may include a loan to finance a portion of the asset cost.If the Equivalent Loan method is selected, the amount of the loan is automatically determined by the program, calculated by discounting the lease payment stream using the lessee's debt rate. The loan payments in the buy case can thus be made to be identical in both timing and amount to the lease payments. This method produces the fairest comparison, since in this way both the lease case and the buy case require an identical series of contractual payment obligations for the lessee. The lease case and the buy case are therefore theoretically identical in terms of their impact on the lessee's credit capacity.
Interestingly, the Equivalent Loan method also parallels the manner in which leases are actually priced by the market. Often the payment stream is sold on a discounted basis to a lender, while the remaining riskier stream of cashflows comprised of tax benefits and residual value is sold to an equity investor.
If you prefer, you can override this and perform an analysis with either zero debt, 100% debt financing, or some specified amount of debt financing. Note that if you use 100% debt financing, or a specified amount of debt financing, the loan payments will be standard level payments. Select the month of the lessee's tax year end. Normally this is December, but you can select another month if you have a non-calendar fiscal year.
The marginal federal tax rate is the rate that applies to ordinary income, without regard to AMT or carryforward. For example, if the lessee expects to be in an Alternative Minimum Tax position (with a 20% rate) for the first 2 years of the lease, and expects to be in an ordinary tax position (with a 35% rate) thereafter, you would enter 35% as the marginal federal tax rate.
The marginal state tax rate is the rate that applies to ordinary income, without regard to AMT or carryforward. Using the quarterly method, the cash receipt of tax benefits occurs in 4 equal installments each year, in the months of April, June, September, and December. These are the months in which estimated tax payments to the IRS are normally due. Note: If the lessee's tax year end is other than December, then the 4 installments occur in the 4th, 6th, 9th, and 12th month of the tax year.
Using the annual method, the entire cash receipt of tax benefits for a given year occurs in the final month of the tax year. If the lessee is subject to the Alternative Minimum Tax it generally influences the analysis in the direction of favoring the lease, since the lessee is unable to make full use of the normal tax benefits associated with ownership.
If the lessee does not expect to be in an AMT position at any time during the term of the lease, the assumptions in this section can be omitted.
The AMT tax rate is the federal rate that applies to alternative minimum taxable income. For corporate taxpayers, this rate is normally 20%.
Enter the final year in which the lessee expects to be in an AMT position. For example, suppose the lessee has a December tax year end, and the lease commences in the year 2000. The lessee is currently subject to the AMT, and expects to be in the AMT for both the 2000 and 2001 tax years, after which the lessee expects to become an ordinary (non-AMT) taxpayer. You would enter 2001 in this case.
Note for non-calendar fiscal year taxpayers: For purposes of this item, tax years are labelled according to the year in which they end. For example, if your fiscal year ends on June30, then the tax year ending June 30, 2002, is referred to as the 2002 year. If the lessee has excess tax losses that must be carried forward to subsequent tax years, it generally influences the analysis in the direction of favoring the lease, since the lessee is unable to make immediate full use of the normal tax benefits associated with ownership.
If the lessee does not expect to be in a tax loss carryforward position at any time during the term of the lease, the assumptions in this section can be omitted.
Enter the final year in which the lessee expects to be in a loss carryforward position. For example, suppose the lessee has a December tax year end, and the lease commences in the year 2000. The lessee is currently in a loss carryforward, and expects to be in a carryforward for both the 2000 and 2001 tax years, after which the lessee expects to become an ordinary taxpayer. You would enter 2001 in this case.
You are permitted to have a loss carryforward period followed by an AMT period. For example, suppose the lessee has a December tax year end, and the lease commences in the year 2000. The lessee is currently in a loss carryforward, and expects to be in a carryforward for both the 2000 and 2001 tax years, after which the lessee expects to be an AMT taxpayer for the years 2002 and 2003. The lessee expects to become an ordinary taxpayer in 2004. In this example, you would enter 2001 as the final carryforward year, and 2003 as the final AMT year.
Note for non-calendar fiscal year taxpayers: For purposes of this item, tax years are labelled according to the year in which they end. For example, if your fiscal year ends on June30, then the tax year ending June 30, 2002, is referred to as the 2002 year. Optionally, you can enter text to be printed as title lines at the top of reports. You can enter up to 2 title lines.
Reports
For most web browsers, you can print a report by positioning the mouse anywhere inside the report window and right-clicking the mouse button. Some web browsers may offer different methods. This report breaks out the net present value cost of leasing and buying into several components that make up the total. The total net present value shown in this report is identical to the total net present value shown in the Summary Of Results - Part II, which breaks out the total net present value calculation by year.
See also Amount Of Debt and End Of Lease Term for further discussion. This report breaks out the total net present value calculation for the lease case and the buy case by year. The total net present value shown in this report is identical to the total net present value shown in the Summary Of Results - Part I, which breaks out the total net present value calculation by component.
The underlying calculations, present values, etc. are always calculated on a montly basis. This report presents the annual totals for summary purposes.
For each section of this report, a corresponding detailed report showing the monthly calculations is also available. For more information on the specific meaning of individual columns, see the description in this Help Section for the corresponding detailed report. This column shows the tax deduction associated with any upfront fee paid in the lease case. These fees are amortized over the term of the lease.
If the lessee purchases the asset at the end of the lease term, the depreciation of the used asset is shown in this column. See also End Of Lease Term.
This column shows the deduction for tax purposes of the lease rental payments. The accrued lease payment differs slightly in timing compared to the cash payments. Example: If lease payments are paid quarterly in arrears, then a payment of $300 on July 1 would be accrued as deductions of $100 in the months of April, May, and June.
This column shows the adjustment if the lessee is in a tax loss carryforward position. In general, tax deductions have no impact during years in which the lessee is in a loss carryforward position, since the lessee is not a taxpayer in those years. The accumulated deductions are therefore carried forward into the first year following the carryforward period.
This is the net total of the preceding columns in this report.
Lease Case
Cash Benefit Of Tax Deductions
The amount of the adjustment is equal to the difference between ordinary MACRS depreciation and AMT depreciation. AMT depreciation is calculated using the 150-percent declining balance method, switching to straight line. The Net Federal Deduction is equal to the basic tax deductions (column 1), plus a deduction for state taxes paid (column 2), plus any required adjustment for AMT (column 3). This column shows the actual cash savings from reduced federal tax payments. The actual tax payment dates occur in April, June, September, and December for a calendar year taxpayer, and are paid in equal installments. For non-calendar fiscal year taxpayers, the payment dates occur in the 4th, 6th, 9th, and 12th month of the fiscal year.
For years in which the taxpayer is subject to AMT, the tax savings are based on the AMT tax rate. In the year immediately following the AMT period (i.e. the first year in which the taxpayer becomes an ordinary taxpayer), the tax savings also include the effect of the AMT credit. The AMT credit is equal to the difference between AMT tax and ordinary tax accumulated during the AMT years.
For years in which the taxpayer is an ordinary (non-AMT) taxpayer, the tax savings are based on the marginal federal tax rate.
Asset Purchase At Lease Termination
If the lessee is assumed to purchase the asset at the end of the lease, this column shows the pretax cash expense associated with the purchase. See End Of Lease Term for more information. This column shows the cash expense associated with the lease payments and fees. The security deposit is also shown in this column, as a cash outflow at the beginning of the lease and a cash inflow of identical amount at the end of the lease. This column shows the actual cash savings from tax benefits. It is the sum of the columns labelled State Tax Cash Benefit and Fed Tax Cash Benefit in the report Cash Benefit of Tax Deductions This column shows the total after tax cashflows for the lease case. It is the net total of the 3 preceding columns. This column shows the present value of the net after tax cashflow shown in the preceding column. The present value calculations are made on a monthly basis. The total sum of this column is the net present value cost of the lease case. See Cost Of Capital for more information. This column shows the tax deduction associated with any upfront fee paid in the buy case. These fees are amortized over the term. Also included in this column is the taxable income associated with any sale of the asset at the end of the term, net of any administrative expense associated the sale. See End Of Lease Term for more information.This is the depreciation for tax purposes associated with ownership of the asset.
This column shows the deduction for tax purposes of the interest associated with the loan in the buy case. See Amount Of Debt for more information on the imputed loan. The accrued interest differs slightly in timing compared to the cash payments. Example: If loan payments are paid quarterly in arrears, then an interest payment of $300 on July 1 would be accrued as deductions of $100 in the months of April, May, and June.
This column shows the adjustment if the taxpayer is in a tax loss carryforward position. In general, tax deductions have no impact during years in which the buyer is in a loss carryforward position, since the buyer is not a taxpayer in those years. The accumulated deductions are therefore carried forward into the first year following the carryforward period.
This is the net total of the preceding columns in this report.
Buy Case
Cash Benefit Of Tax Deductions
The amount of the adjustment is equal to the difference between ordinary MACRS depreciation and AMT depreciation. AMT depreciation is calculated using the 150-percent declining balance method, switching to straight line. The Net Federal Deduction is equal to the basic tax deductions (column 1), plus a deduction for state taxes paid (column 2), plus any required adjustment for AMT (column 3). This column shows the actual cash savings from reduced federal tax payments. The actual tax payment dates occur in April, June, September, and December for a calendar year taxpayer, and are paid in equal installments. For non-calendar fiscal year taxpayers, the payment dates occur in the 4th, 6th, 9th, and 12th month of the fiscal year.
For years in which the taxpayer is subject to AMT, the tax savings are based on the AMT tax rate. In the year immediately following the AMT period (i.e. the first year in which the taxpayer becomes an ordinary taxpayer), the tax savings also include the effect of the AMT credit. The AMT credit is equal to the difference between AMT tax and ordinary tax accumulated during the AMT years.
For years in which the taxpayer is an ordinary (non-AMT) taxpayer, the tax savings are based on the marginal federal tax rate.
Asset Purchase Or Sale (net of loan)
This column shows the initial cash expense associated with the purchase of the asset, net of the funds provided by the imputed loan. See Amount Of Debt for more information.If the lessee is assumed not to purchase the asset at the end of the lease, then the buy case similarly assumes that the asset is sold at the end of the term. This column shows the pretax cash income associated with any such sale in the buy case. Note that the administrative costs associated with the sale of the asset are not included in this column, since they are included in the next column. See End Of Lease Term for more information. This column shows the pretax cash expense associated with the loan payments. Also shown in this column are any fees, including both the upfront fee as well as any administrative costs associated with a sale of the asset at the end of the term. This column shows the actual cash savings from tax benefits. It is the sum of the columns labelled State Tax Cash Benefit and Fed Tax Cash Benefit in the report Cash Benefit of Tax Deductions This column shows the total after tax cashflows for the buy case. It is the net total of the 3 preceding columns. This column shows the present value of the net after tax cashflow shown in the preceding column. The present value calculations are made on a monthly basis. The total sum of this column is the net present value cost of the buy case. See Cost Of Capital for more information.
Buy Case
Amortization Schedule For Imputed Loan
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