Question

Free company has net income, before taxes of $200,000, including $20,000 interest revenue from municipal bonds and $10,000 paid for officers' life insurance premiums where the company is the beneficiary. There are no other differences between financial income before taxes and taxable income. The tax rate of the current year is 20%. What is Free's effective tax rate? (Hint: (Effective tax rate = income tax expense/pretax net income.) a. the correct answer is not an option. b. 19.0% c. 21.0% d. 20.0%

Answer 1

The effective tax rate can be calculated by dividing the income tax expense by the pretax net income. In this case, the net income before taxes is $200,000 and the taxable income is $170,000. Therefore, the effective tax rate is 17%.

Step-by-step explanation:

The effective tax rate can be calculated by dividing the income tax expense by the pretax net income. In this case, the net income before taxes is $200,000, which includes $20,000 interest revenue from municipal bonds and $10,000 paid for officers' life insurance premiums. To calculate the income tax expense, we need to subtract these non-taxable items from the net income before taxes. Therefore, the taxable income is $200,000 - $20,000 - $10,000 = $170,000.

Since the tax rate is 20%, the income tax expense is $170,000 x 0.20 = $34,000. To calculate the effective tax rate, we divide the income tax expense by the pretax net income: $34,000 / $200,000 = 0.17, or 17%.

Answer 2

Free company's effective tax rate is calculated to be 19% after considering the non-taxable interest revenue and non-deductible insurance premiums.

Step-by-step explanation:

To calculate Free company's effective tax rate, first, we need to adjust its pre-tax net income to reflect taxable income. The interest revenue from municipal bonds of $20,000 is tax-exempt and the $10,000 paid for officers' life insurance premiums is not deductible.

The taxable income is therefore $200,000 - $20,000 + $10,000 = $190,000.

Applying the tax rate of 20% to the taxable income gives us an income tax expense of $190,000 × 0.20 = $38,000. Finally, we calculate the effective tax rate by dividing the income tax expense by the pre-tax net income:

$38,000 / $200,000 = 0.19 or 19%.