A mining Company in Ghana intends buying a vehicle (Pajero) for official use under a finance lease arrangement or an outright purchase. The cost profile of the vehicle is as follows:
i) Outright Purchase: Cost at GH¢80,000.
ii) Finance Lease Arrangement: Cost inclusive of interest is GH¢105,000, to be paid over three years. The interest component is GH¢30,000 to be spread over the three years.
Required:
Determine which of the option you would advise to be adopted. (6 marks)
View Solution
The law limits or restricts capital allowance in respect of a vehicle which is not commercial vehicle to GH¢75,000. The Pajero shall accordingly be restricted to GH¢75,000.
Option 1 outright purchase amounting to GH¢80,000. Capital allowance shall be granted on only GH¢75,000 and not the full amount of GH¢80,000. (2 marks)
With the second option: Capital allowance shall be granted on the principal repayment in respect of an amount of GH¢25,000 each year for three years totaling GH¢75,000 and GH¢10,000 shall be granted as allowable deduction each year for the 3 years totaling GH¢30,000. In effect the whole amount shall be allowable.
The whole amount of GH¢105,000 shall be allowable deduction. (2 marks)
Conclusion
Option 2 is better on the following grounds:
All the amount shall be granted as capital allowance/ deduction as follows:
75,000 shall be granted as capital allowance for the entire period
Interest of GH¢30,000 shall be granted as allowable deduction over the three years
The payment shall be spread which will not affect the cash flow of the mining company greatly as opposed to the outright cash payment. (2 marks)