Final answer:
The general approach to incorporating CCA tax shields involves adjusting taxable income by the allowable capital cost allowance to provide a tax saving benefit, calculating the tax payment with and without the CCA, and then determining the tax shield value which should be discounted to present value in financial analyses.
Step-by-step explanation:
The general approach to incorporating CCA tax shields into a financial analysis involves adjusting the taxable income of a business to reflect the capital cost allowance (CCA), which is the allowable depreciation on tangible capital assets for tax purposes in certain jurisdictions. This adjustment effectively reduces taxable income and thus taxes paid, providing a 'tax shield' that represents a cash flow benefit. To calculate the value of this tax shield, apply the following method:
- Determine the CCA rate applicable to the asset category.
- Calculate the annual depreciation expense based on this rate and the cost of the asset.
- Adjust the company's taxable income downward by the amount of this depreciation.
- Multiply the reduced taxable income by the corporate tax rate to find the tax payment.
- The difference between the tax payment without the CCA and with the CCA represents the value of the tax shield.
It is important to note that the value of the CCA tax shield must be discounted back to its present value when conducting a discounted cash flow analysis or evaluating investment decisions.