Question

Firm E must choose between two alternative transactions. Transaction 1 requires a $11,100 cash outlay that would be nondeductible in the computation of taxable income. Transaction 2 requires a $15,800 cash outlay that would be a deductible expense. Determine the after-tax cost for each transaction. Assume Firm E’s marginal tax rate is 10 percent. Determine the after-tax cost for each transaction. Assume Firm E’s marginal tax rate is 30 percent.

Answer 1

If the tax rate is 10% the better option is transaction 1 ($11,100 to 14,220)

IF the tax rate is 30% the better option is transaction 2 ($10,885 to 11,100)

Step-by-step explanation:

We will compare the after tax cost for transaction two and check if it is better than 11,100 which will be the net cost for transaciton one

We must understad that the tax income deductible transacton provides a tax shield on the tax income, therefore his net effect is lower after considering taxes.

the rate will be think it as a discount to the pruchase price

at 10% income rate:

15,800 x ( 1 - 10% ) = 14,220

at 30% income rate

15,500 x ( 1 - 30% ) = 10,885