ch13-AFM102s2012

Equation to determine that the after tax cost of the

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Unformatted text preview: realized from a taxable cash receipt after income tax effects have been considered is known as the after-tax benefit. After-tax benefit = (net cash inflow) Managerial Accounting (1 – Tax rate) × Taxable cash receipt 13-61 Capital Cost Allowance (CCA) Tax Shield While capital cost allowance (CCA) is not a cash flow, it does affect the taxes that must be paid and therefore has an indirect effect on a company’s cash flows. Tax savings from the CCA tax = Tax rate × CCA deduction shield Managerial Accounting 13-62 CCA Tax Shield – An Example Assume a company has annual cash sales and cash operating expenses of $500,000 and $310,000, respectively; a depreciable asset, with no salvage value, on which the annual straight-line depreciation expense is $90,000; and a 30% tax rate. Tax savings from the CCA tax = Tax rate × CCA deduction shield Managerial Accounting 13-63 CCA Tax Shield – An Example Assume a company has annual cash sales and cash operating expenses of $500,000 and $310,000, respectively; a depreciable asset, with no salvage value, on which the annual straight-line CCA depreciation expense is $90,000; and a 30% tax rate. Tax savings from the CCA tax shield $27,000 = Tax rate × CCA deduction = .30 × $90,000 The CCA tax shield is $27,000. Managerial Accounting 13-64 CCA Tax Shield – An Example The answer can also be determined by calculating the taxable income and income tax for two alternatives—without the CCA depreciation deduction and with the CCA depreciation deduction. The CCA tax shield is the same—$27,000. Managerial Accounting 13-65 Present Value of CCA Tax Shields • Capital cost allowance (CCA) is depreciation for tax purposes • Tax Shield on CCA = CCA × tax rate • CCA is calculated on a declining balance basis. Each year’s CCA is calculated as: • Undepreciated Capital Cost (UCC) × CCA rate • UCCt+1 = UCCt – CCAt • In the year an asset is purchased, only a 1/2 year of CCA can be deducted • Present value of CCA tax shields: • PV = [(Cdt/d + k)/(d + k) × (1 +.5k)/(1 + k)] • Where: c = capital cost of asset; d = CCA rate; t = tax rate; k = cost of capital Managerial Accounting 13-66 Present Value of CCA Tax Shields • When an asset is sold, and adjustment is needed to the present value of the CCA tax shields. • The adjustment is needed because the original calculation (see previous slide) assumes an infinite stream of CCA deductions (declining balance basis) and related tax shields. • When the asset is sold, the company loses the tax shields on any proceeds received. The adjustment is: (Sdt/d + k) × (1+ k)-n Where, s = salvage value; d = depreciation rate; t = tax rate; k = cost of capital; n = year of disposal Managerial Accounting 13-67 Holland Company – An Example Holland Company owns the mineral rights to land that has a deposit of ore. The company is deciding whether to purchase equipment and open a mine on the property. The mine would be depleted and closed in 10 years and the equipme...
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