{[ promptMessage ]}

Bookmark it

{[ promptMessage ]}

IvanRivera6.Unit4-MT480-Project

# IvanRivera6.Unit4-MT480-Project - Ivan Rivera6 MT480...

This preview shows pages 1–3. Sign up to view the full content.

Ivan Rivera6 MT480 – Corporate Finance Project Chapter 6 Chapter 6 4. Mrs. T. Potts, the treasurer of Ideal China, has a problem. The company has just ordered a new kiln for \$400,000. Of this sum, \$50,000 is described by the supplier as an installation cost. Mrs. Potts does not know whether the Internal Revenue Service (IRS) will permit the company to treat this cost as a tax-deductible current expense or as a capital investment. In the latter case, the company could depreciate the \$50,000 using the five year MACRS tax depreciation schedule. How will the IRS’s decision affect the after-tax cost of the kiln? The tax rate is 35 percent and the opportunity cost of capital is 5 percent. Case 1: Tax deductible current expense After-tax cost (of installation cost) = \$50,000 – (1 - .35) \$32,500 PV of tax shield = (50,000 x 35%)/1.05 16,666.67 Case 2: Capital Investment Year MACRS Depreciation Tax shield PV of tax dep. Rate expense shield 1 20% 10000 3500 3333.33 2 32% 16000 5600 5079.37 3 19.20% 9600 3360 2902.49 4 11.52% 5760 2016 1658.57 5 11.52% 5760 2016 1579.59 6 5.76% 2880 1008 752.19 PV of tax shield = 15305.53

This preview has intentionally blurred sections. Sign up to view the full version.

View Full Document
The present value of tax shield is higher if the installation costs can be expensed in the current period. Thus, the after-tax cost of kiln will be lower if the installation costs are expensed entirely in the current period. The net benefit by expensing it would be 16,666.67 - \$15,305.53 \$1,361.14 and so the after-tax cost of the kiln would be lower by the
This is the end of the preview. Sign up to access the rest of the document.

{[ snackBarMessage ]}