Question

Isabel, a calendar-year taxpayer, uses the cash method of accounting for her sole proprietorship. In late December she received a $28,000 bill from her accountant for consulting services related to her small business. Isabel can pay the $28,000 bill anytime before January 30 of next year without penalty. Assume her marginal tax rate is 37 percent this year and next year, and that she can earn an after-tax rate of return of 11 percent on her investments. a. What is the after-tax cost if Isabel pays the $28,000 bill in December

Answer 1

A. $17,640

B.$18,666

Step-by-step explanation:

a. Calculation for the after-tax cost if Isabel pays the $28,000 bill in December

First step is to find the Tax savings in current year

Tax savings in current year = $28,000*37%

Tax savings in current year = $10,360

Last step is to calculate for the After tax cost using this formula

After tax cost = Cost of bill - Tax savings

Let plug in the formula

After tax cost= $28,000-$10,360

After tax cost=$17,640

Therefore the after-tax cost if Isabel pays the $28,000 bill in December will be $17,640

b. Calculation for the after-tax cost if Isabel pays the $20,000 bill in January

First step is to find the Tax savings in next year

Tax savings in current year = $28,000*37%

Tax savings in current year = $10,360

Second step is to find the present value of $1 ($28,000/$28,000) at 11% for one year using present value table

Present value of $1 at 11% for one year = 0.901

Present value of tax savings = $10,360* .901

Present value of tax savings =$9,334.36

Last step is to calculate for the After tax cost using this formula

After tax cost = Cost of bill - Tax savings

Let plug in the formula

After tax cost = $28,000-$9,334.36

After tax cost=$18,665.64 approximately $18,666

Therefore the after-tax cost if Isabel pays the $28,000 bill in January will be $18,666