What procedure should a lessor follow when setting lease rates?
In a leasing arrangement, the lessor wants to set a rate that provides a satisfactory return. This is done by first focusing on four items: • The lessor’s after-tax required rate of return. • The lessor’s tax rate. • The cost of the leased asset. • The depreciation expense available.Once these items have been determined, the lease rate can be set by following 5 steps: Step 1: Determine the value of the depreciation expense from owning the asset. Step 2: Calculate the present value of the depreciation expense. Step 3: Calculate the amount that needs to be recovered in lease rates. This amount is the difference between the cost of the asset and the present value of the depreciation expense. Step 4: Calculate the after-tax lease payment Step 5: Calculate the before-tax lease payment.
