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Own or Lease

The document discusses factors to consider when deciding whether to purchase an asset or lease it. Key factors include cash position, availability of depreciation deductions, risk of obsolescence, residual value of the asset, impact on profit margins, and overall impact on profits after tax. When leasing an asset, the lessee cannot claim depreciation but can deduct lease payments. Purchasing allows depreciation deductions but the owner bears the risk if the asset loses value or becomes obsolete. The document analyzes these various financial factors in deciding the optimal approach.

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1K views6 pages

Own or Lease

The document discusses factors to consider when deciding whether to purchase an asset or lease it. Key factors include cash position, availability of depreciation deductions, risk of obsolescence, residual value of the asset, impact on profit margins, and overall impact on profits after tax. When leasing an asset, the lessee cannot claim depreciation but can deduct lease payments. Purchasing allows depreciation deductions but the owner bears the risk if the asset loses value or becomes obsolete. The document analyzes these various financial factors in deciding the optimal approach.

Uploaded by

MANOJ
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as PDF, TXT or read online on Scribd
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ManojKumar.

M
CORPORATE TAX LAW AND PLANNING
Basdudev Somani College

Tax Management with reference to –


OWN OR LEASE

PURCHASE OF ASSET OR GETTING IT ON LEASE

A lease of property is a transfer of right to enjoy such


property, made for certain time, in consideration of a price
payable periodically to the transferor by the transferee.

In other words, leasing is an arrangement that provides


a person with the use and control over an asset, for a price
payable periodically, without having a title of ownership.
In case of lease agreement the owner of the asset is called
the lessor and the user is called lessee.

Leasing an asset: The concept of leasing has gained


popularity in recent time. Hence, the managers may have
the choice between purchasing an asset or to get the asset
on lease. The managers need to take decision after taking
into account tax savings and other economic factors.
ManojKumar.M
CORPORATE TAX LAW AND PLANNING
Basdudev Somani College

When the asset is acquired on lease, the tax payer can


claim deductions in respect of Lease rentals and
processing/management fees. However, depreciation
cannot be claimed under this method since the assessee is
not the owner of the asset. When the asset is obtained
under lease, there is no immediate cash outflow.

OWN OR LEASE
When a person needs an asset for his business purposes, he
has to decide whether the asset should be purchased or
taken or lease. While taking this decision we should keep
in mind the following factors.
1. Cash Position
2. Depreciation
3. Obsolete risk
4. Residual value
5. Profit margin
6. Considered profit after tax
ManojKumar.M
CORPORATE TAX LAW AND PLANNING
Basdudev Somani College

1. Cash position: -
a) When a person has sufficient cash or he can borrow
funds at a reasonable rate of interest to purchase an
asset or can acquire the asset under hire
purchase/instalment system, he may decide to buy it.
b)The cost of own asset is not deductible in computing
the income but the interest on borrowed funds or
under hire purchase/instalments system is
deductible in computing the income.
c) If he neither has sufficient cash nor he can borrow
due to stringent credit control, he has to take the
asset on lease.
d) The lease rent is deductible in computing the
income.

If a person purchases an asset out of own fund, the cost of own fund is
not deductible while computing the income for tax purposes. Only
depreciation is allowable. Hence, an assessee can avail tax saving on
account of depreciation only. When the acquired asset is sold or its
residual value of scrap will be subjected to capital gain tax.
ManojKumar.M
CORPORATE TAX LAW AND PLANNING
Basdudev Somani College

2. Depreciation: -
a. When the asset is purchased or acquired under hire
purchase/instalment system, the depreciation is
allowed in computing income.
b. When the asset is taken on lease the depreciation is not
allowed to the lessee. Because he is not the owner of the
asset, but it is allowed to the lessor. Non-availability of
depreciation to the lessee will increase his tax liability.
If the asset is such on which depreciation is not
allowed, e,g, land, the increase or decrease in the value
of the asset in future must be considered. If the asset is
such where increase in the value is expected, it may be
purchased otherwise it may be taken on lease.
 When an asset is purchases out of borrowed fund, interest on borrowed
capital as well as depreciation u/s 32 can be claimed as deduction.
 when an asset is purchased on installment system, both interest on unpaid
purchase price of the asset and depreciation (u/s 32) are allowed as
deduction
 If an asset is obtained on hire purchase system, the tax payer can claim
deduction in respect of hire charges
ManojKumar.M
CORPORATE TAX LAW AND PLANNING
Basdudev Somani College

3. Obsolescence risk: - When a plant or machinery is purchased


and it becomes obsolete earlier than its expected working life,
it has to be replaced. The replacement cost can be met partly
out of depreciation fund and partly by arranging further cash.
In case of lease the asset will be replaced by the lessor.
However, the lessor will also keep in mind the risk of
obsolescence and increase the lease rent to off-set such a loss.

4. Residual value: - When a person purchases an asset, he has full


rights to the value of asset at the end of any given period. In
case of asset with large residual value it is better to purchase it
rather than taken on lease.

5. Profit margin: -
a. where profit margin is low, it is better to purchase the asset.
If the asset has been purchased by borrowed funds the cash
outflow would be equal to loan intalment, interest payment
and slightly higher tax.
b. In case of leasing the lease rent would be equal to part of the
cost of asset to lessor, interest on investment and profit to the
lessor.
ManojKumar.M
CORPORATE TAX LAW AND PLANNING
Basdudev Somani College

c. The cash outflow will be equal to lease rent less nominal tax
saving.
d. In case of lease,the profit of the lessor will be the loss to the
lessee.

6. Consider the profit after tax:-


It is an important consideration in tax planning. The assessee
should follow such a method for obtaining an asset which
reduces his tax liability and the profits after tax are greater. For
this purpose some people suggest that own funds should not
be used in purchase of an asset because interest on own funds
is not deductible in computing the income, whereas interest on
borrowed funds is deductible. But one should keep in mind
that if own funds are invested outside the business, the interest
earned will offset the interest payment. Further, he must
consider the difficulty involved in raising loans and the cost
factors incidental thereto.

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