Question

A company is evaluating a new 4-year project. The equipment necessary for the project will cost $3,050,000 and can be sold for $670,000 at the end of the project. The asset is in the 5-year MACRS class. The depreciation percentage each year is 20.00 percent, 32.00 percent, 19.20 percent, 11.52 percent, and 11.52 percent, respectively. The company's tax rate is 34 percent. What is the aftertax salvage value of the equipment?

Answer 1

The aftertax salvage value of the equipment is -$308,011.20.

Step-by-step explanation:

To calculate the after-tax salvage value of the equipment, we need to determine the depreciation tax shield for each year and then subtract it from the equipment's sale value.

1. Calculate the annual depreciation amount by multiplying the equipment cost by the depreciation percentage for each year. The annual depreciation amounts for the 4-year project are $610,000, $976,000, $586,400, $351,840, and $351,840.
2. Calculate the tax savings (depreciation tax shield) for each year by multiplying the annual depreciation amount by the tax rate of 34%. The tax savings for each year are $207,400, $331,840, $199,776, $119,497.60, and $119,497.60.
3. Subtract the total tax savings from the equipment's sale value to get the after-tax salvage value. The equipment's sale value is $670,000, so the aftertax salvage value is $670,000 minus ($207,400 + $331,840 + $199,776 + $119,497.60 + $119,497.60) = $670,000 minus $978,011.20 = $-308,011.20.