Your company is considering a new project that will require $2,000,000 of new equipment at the start of the project. The equipment will have a depreciable life of 10 years and will be depreciated to a book value of $250,000 using straight-line depreciation. The cost of capital is 12 percent, and the firm's tax rate is 21 percent. Estimate the present value of the tax benefits from depreciation.
A) $68,250
B) $988,789
C) $175,000
D) $207,646

Question

Quizplus · Accepted Answer

The present value of the tax benefits from depreciation can be calculated using the depreciation expense, the tax rate, and the cost of capital. The annual depreciation expense is ($2,000,000 - $250,000) / 10 = $175,000. The annual tax shield is $175,000 * 21% = $36,750. The present value of this annuity over 10 years at a 12% discount rate can be calculated using the formula for the present value of an annuity: PV = PMT * [(1 - (1 + r)^-n) / r], where PMT is the annual payment ($36,750), r is the discount rate (12% or 0.12), and n is the number of periods (10 years). Plugging in the numbers gives a present value of approximately $207,646.

Your Company Is Considering a New Project That Will Require