Corporate Taxation and Leasing

Abstract

It is shown that the existing tax law with its incomplete tax-loss offset will often lead to leasing contracts being advantageous to firms. This result obtains even if firms are in the same tax bracket and have the same probability of having positive taxable income. I. Introduction Most of the existing literature on leasing draws the conclusion that if mar? kets are competitive, then there should be no advantage to a leasing contract for firms in the same tax bracket (see [1], [7], and [10]). This research demonstrates that under the existing tax law, which has an incomplete tax-loss offset, a leasing contract will often be advantageous for firms even if they are in the same tax bracket in those states in which they have taxable income and/or have the same probability of paying taxes. By analyzing the lease/buy decision in the more gen? eral state-preference model, this research shows that leasing provides a more complete market for tax claims that can provide a net tax savings for the firms involved. This research also differs from the existing literature in its analysis of the impact of the leasing arrangement on the lessor. It is shown that the leasing con? tract affects the taxability of the lessor firm's investment in its own technology and may allow additional benefits through the adjustment of this investment. Since one of the primary reasons for the leasing arrangement is the ability of the lessee to, in some sense, sell the tax benefits of ownership to a lessor firm, only the partial equilibrium results will be discussed. A full equilibrium analysis would require some assumptions about the government's reaction to a change in corporate tax revenues and the impact of that reaction on the utility of each indi? vidual in the economy. Section II presents and discusses the model of the firm under taxation used in this research. In Section III, the individual firm's supply and demand for lease capital is derived and the major results of the paper are presented. Section IV