Question

Andy is considering investing $5,000 into one of three investments. He can invest in corporate stock that will pay dividends of 5% per year. He can purchase corporate bonds that pay 6%. Or, he can invest in tax-exempt securities that will pay 4% per year. Andy is in the 33% marginal tax bracket, and the dividends will be taxed at 15%. Based on his after-tax return, which investment should he choose?

A) Corporate stock
B) Corporate bonds
C) Tax-exempt securities

Answer 1

Based on his after-tax return, Andy should choose Corporate stock as it has the highest after-tax return of $212.50.

Step-by-step explanation:

In order to determine which investment Andy should choose based on his after-tax return, we need to calculate the after-tax return for each option. Let's start with the corporate stock:

Dividends: $5,000 * 5% = $250

Tax on dividends: $250 * 15% = $37.50

After-tax return on corporate stock: $250 - $37.50 = $212.50

Next, let's calculate the after-tax return for the corporate bonds:

Interest: $5,000 * 6% = $300

Tax on interest: $300 * 33% = $99

After-tax return on corporate bonds: $300 - $99 = $201

Finally, let's calculate the after-tax return for the tax-exempt securities:

Interest: $5,000 * 4% = $200

After-tax return on tax-exempt securities: $200

Comparing the after-tax returns, we can see that Andy should choose Corporate stock as it has the highest after-tax return of $212.50.