Scenario: Lease Versus Buy Analysis for Equipment

This page describes a composite hypothetical. It is not a real client or a real result. All amounts are assumptions for illustration.

The Scenario in Brief

A dental practice needs new imaging equipment. The vendor offers a purchase with financing and a lease. The owner asks an advisor which is better from a tax and cash flow perspective. The advisor explains that the answer depends on how the lease is structured and on the owner's goals, and builds a simplified comparison.

Assumptions Used

• Equipment price: 120,000 dollars.
• Purchase option: financed over five years with equal payments, with total payments of 132,000 dollars including interest.
• Lease option: 60 monthly payments of 2,000 dollars, or 120,000 dollars in total, with the option to purchase the equipment at fair market value at the end of the term.
• The practice is a pass-through entity, with an assumed marginal rate of 32 percent for the owner.
• Full expensing is assumed to be available for the purchase in the first year.
• The advisor assumes the lease is a true lease for tax purposes, meaning the practice is treated as the lessee and deducts payments as rent.

How the Tax Treatment Differs

If the practice buys the equipment, the cost is deductible through depreciation or expensing, and the interest is deductible as it is paid or accrued. If the practice leases the equipment under a true lease, the payments are generally deductible as rent over the lease term, and the lessor claims depreciation. Some arrangements labeled as leases are treated as financed purchases for tax purposes, depending on terms such as a nominal purchase option, and the tax treatment then follows the purchase model. The advisor would read the lease terms to see which category applies.

Worked Arithmetic: Timing of Deductions

At an assumed 32 percent marginal rate, the purchase produces a year-one tax reduction of roughly 39,700 dollars, computed on 124,000 dollars of deductions. The lease produces about 7,700 dollars in year one and the same amount in each later year, computed on 24,000 dollars. Over five years, total deductions are 132,000 dollars for the purchase and 120,000 dollars for the lease, reflecting the interest and the difference in total payments. The purchase front-loads the deduction, which may be valuable if the practice can use it, but it also requires more financing and creates ownership of the equipment.

Cash Flow and Non-Tax Factors

The advisor would point out that tax timing is only one factor. Leasing may offer lower initial cash outlay, upgrade options, and service arrangements, which can be valuable for technology that becomes outdated. Buying provides ownership, potential residual value, and control over maintenance. The right choice depends on how long the practice expects to use the equipment, how quickly the technology changes, and the practice's borrowing capacity.

State and Other Effects

If the state does not follow federal expensing, the state deduction on a purchase would be spread over time, which reduces the difference between the two options at the state level. The advisor would also consider the effect on the qualified business income deduction, which is reduced by larger deductions.

Scenario Variations Worth Considering

If the practice expected lower income in the year of purchase, the value of front-loading would be smaller. If the lease had a fixed purchase price of one dollar at the end, it would probably be treated as a purchase for tax purposes. If the equipment might be obsolete in three years, a shorter lease could look better regardless of tax. If interest rates were much higher, financing costs would weigh more.

Risks and Limits

• The tax character of a lease depends on its terms.
• Expensing limits and percentages change and must be confirmed.
• Financing costs and residual value are not captured in a simple tax comparison.
• The analysis does not account for the time value of money.

What This Scenario Teaches

Lease versus buy is a business decision with tax consequences. A simple comparison of deductions can be misleading if it ignores financing costs, obsolescence, and flexibility. The tax effect is best considered after the business case is clear.

Questions to Bring to Your Advisor

1. Is this lease a true lease for tax purposes?
2. What are the total costs of each option, including financing?
3. How would each option affect my deductions this year and next?
4. What will happen at the end of the term?

Educational purposes only. This page is an illustrative educational scenario, not tax, legal, or accounting advice, and it does not describe a real client or a real result. Tax laws change and outcomes depend on individual facts, so consult a qualified professional before acting. No result is guaranteed.