OWN OR LEASE TAX PLANNING WITH REFERENCE TO SPECIFIC MANAGERIAL DECISIONS

• TAX PLANNING WITH REFERENCE TO SPECIFIC MANAGERIAL DECISIONS
• OWN OR LEASE
• OWNING/PURCHASING THE ASSETS

1. BECOMES THE LEGAL OWNER
2. CAN BE OFFERED AS SECURITY TO OUTSIDERS
3. TO BEAR THE RISK OF OBSOLETENESS
4. HAS TO MAKE THE FULL PAYMENT OR IN INSTALLMENT
5. CAN CLAIM DEPRECIATION
6. HAS THE OPTION OF SALE OR DISPOSE OF THE ASSETS

• LEASE DECISIONS
• NO REQUIREMENT OF IMMEDIATE HUGE CASH OUTFLOW

1. LEASE RENTAL WILL BE PAID PERIODICALLY
2. ACCOUNTING STANDARD-19, THE LEASE RENTAL ARE TREATED AS ADMISSIBLE EXPENSE UNDER PROFIT AND LOSS ACCOUNT
3. HAS TO BE RETURNED TO LESSOR AT THE END OF THE LEASE PERIOD
4. FIXED ASSETS ARE FINANCED OUT OF SHORT TERM FUNDS.

• TAX CONSIDERATION
• TAX EFFECT FOR BUYER IN CASE OF BUYING AN ASSETS

1. CAN CLAIM DEPRECIATION AT PRESCRIBED RATE
2. CAN ALSO CHARGE EXPENSES INCURRED ON REPAIRS, MAINTENANCE ETC. OF THE ASSETS.
3. IF ASSET IS FINANCED WITH BORROWED FUND , CAN CLAIM INTEREST AS AN EXPENSE
4. TAX CONSIDERATION

• TAX IMPLICATION FOR LESSEE
• CAN CLAIM LEASE RENTALS
• HOW TO TAKE DECISION
• COMPARE THE PRESENT VALUE OF CASH OUTFLOWS IN BOTH THE OPTIONS. SELECT THE OPTION WITH LESSER PRESENT VALUE OF CASH OUT FLOW.
• PRESENT VALUE OF CASH OUTFLOWS IN CASE OF BUYING THE ASSET WITH BORROWED FUND
• STEP 1: CALCULATE CASH OUTFLOW

·         CASH OUTFLOW =LOAN REPAYMENT + INTEREST ON LOAN

·         STEP 2 :TAX SAVING ON ACCOUNT OF DEPRECIATION AND INTEREST ON LOAN

·         TAX SAVING = ( INTEREST + DEP)X APPLICABLE TAX RATE

·         STEP 3. CALCULATE POST- TAX CASH OUT FLOWS

·         POST TAX CASH OUTFLOWS = OUTFLOW IN STEP 1-TAX SAVING AS PER STEP 2

·         STEP 4.

·         POST TAX CASH OUTFLOW X PRESENT  VALUE FACTOR OF RE 1 AT SPECIFIED RATE

• PRESENT VALUE OF POST –TAX CASH OUTFLOW IN CASE OF LEASE
• STEP 1. CALCULATE CASH OUTFLOW RELATED TO ASSETS TAKEN ON LEASE

·         CASH OUTFLOW = ANNUAL LEASE RENT + OTHER CHARGES TO BE PAID

·         STEP 2. TAX SAVING ON ACCOUNT OF LEASE RENT

·         TAX SAVING = ANNUAL LEASE RENT X APPLICABLE TAX RATE

·         STEP 3. CALCULATE POST TAX CASH OUTFLOW

·         POST –TAX CASH OUTFLOWS =OUTFLOW IN STEP 1-TAX SVING AS PER STEP 2

·         STEP 4.

·         POST TAX CASH OUTFLOW X PRESENT  VALUE FACTOR OF RE 1 AT SPECIFIED RATE

• OWNING OR LEASING ( EXAMPLE)

• PROBLEM ( STATEMENT)

1. A FIRM REQUIRE AN ASSET WHOSE COST PRICE IS RS. 1,00,000. IT HAS TWO OPTIONS ; EITHER PURCHASING WITH BORROWED FUND OR LEASING
2. IN CASE OF PURCHASE WITH BORROWED FUND:-

3.       LOAN IS TO BE PAID IN FIVE YEARS EQUAL INSTALLMENT OF 20,000 ALONG WITH INTEREST @ 14% P.A

4. IN CASE OF LEASING

5.       ANNUAL LEASE RENT IS PAYABLE FOR 5 YEARS TO TUNE OF RS, 30,000 EACH YEAR

• PROBLEM ( STATEMENT)

1. PROCESSING FEE IS CHARGED AS 1% IN THE FIRST YEAR. ASSUMING THAT LEASE RENTALS, PROCESSING FEES, INTEREST AS WELL AS THE PRINCIPAL  AMOUNT ARE PAYABLE AT THE YEAR END.
2. ASSUMING INTERNAL RATE OF RETURN IS 10% AND THE PRESENT VALUE FACTOR AT 10% IS :-

• .909
• .826        
• .751
• .683
• .621

·         TAX RATE IS ASSUMED TO BE 30.09% AND RATE OF DEP IS 15%

• WORKING NOTES
• CALCULATION OF DEPRECIATION 15% WDV
• VALUE OF ASSET =1,00,000, DEP = 15,000
• WDV OF ASSET = 85,000 , DEP= 12,750
• WDV OF ASSET = 72,250 , DEP= 10,838
• WDV OF ASSET = 61,412 , DEP= 9,212
• WWDV OF ASSET = 52,000, DEP= 7,830

• WORKING NOTES

1. CALCULATION OF INTEREST (14%)
2. PRINCIPAL AT THE END OF ONE YEAR =1,00,000, INTEREST = 14,000
3. PRINCIPAL AT THE END OF SECOND YEAR =80,000 AND INTEREST =11,200
4. PRINCIPAL AT THE END OF THE THIRD YEAR =60,000 AND INTEREST = 8,400
5. PRINCIPAL AT THE END OF FOURTH YEAR =40,000 AND INTEREST = 5,600
6. PRINCIPAL AT THE END OF FIFTH YEAR = 20,000 AND IN 2,800

• SOLUTION ( BUYING WITH BORROWED FUND)
• 
  
• 
  
• SOLUTION ( LEASING)
• DECISION

1. TOTAL NET PRESENT VALUE OF CASH OUTFLOW IN CASE OF PURCHASING WITH BORROWED FUND = 85,760
2. TOTAL NET PRESENT VALUE OF CASH OUTFLOW IN CASE OF LEASING = 79,195
3. IN THE PRESENT SITUATION LEASE FINANCE WORKS OUT TO BE CHEAPER. SO THE COMPANY SHOULD GO FOR LEASING INSTEAD OF PURCHASING WITH BORROWED FUNDS.