Corporate Strategy
CHAPTER 4
28. A taxpayer is considering three alternative investments of $10,000. Assume the taxpayer is in the 28% marginal tax bracket for ordinary income and 15% for qualifying capital gains and dividends in all tax years. The selected investment will be liquidated at the end of five years. The alternatives are: Taxable Corporate Bond yielding 6% before tax, and the interest can be reinvested at 6% before tax. The taxable bond and reinvested earnings will accumulate at an after-tax rate of 4.32% [(1 – .28) × .06] to equal $12,355 at the end of 5 years [$10,000 × (1.0432)5 = $10,000 × 1.2355 = $12,355]. A series EE bond that will have a maturity value of $13,070 (a 5.5% before-tax rate of return.) 10000*5.5%^5 = 13,070 The income from the Series EE bond will not be taxed until maturity in five years, and the after-tax value will be $12,210 [$13,070 – .28($13,070 – $10,000)]. $13,070 - .28*3070 $13,070 - 859.6
Thus, the after-tax proceeds from the land must exceed $12,355. Because the gain on the land will be taxed as long-term capital gain, the sales proceeds less 15% of the appreciation must exceed $12,355. $10,000 + (1 – .15)(X – $10,000) = $12,356 $10,000 + .85x – $8,500 = $12,356 .85x = $10,856 x = $12,772. Thus, the land must increase in value by at least $2,772 to yield a greater after-tax return than the investment in either of the bonds. It should be noted if the land increases in value to $12,772, it will have a smaller before-tax value than the Series EE bond, but the land will have a greater after-tax value. The greater after-tax value of the land results from the lower tax rate. Thus, the tax rate and the timing of the tax payments are determinants of the after-tax rate of return from an investment. pp. 4-4 to 4-6, 4-36, and 4-37
29. Determine the taxpayer’s gross income for tax purposes in each of the following situations:
28. A taxpayer is considering three alternative investments of $10,000. Assume the taxpayer is in the 28% marginal tax bracket for ordinary income and 15% for qualifying capital gains and dividends in all tax years. The selected investment will be liquidated at the end of five years. The alternatives are: Taxable Corporate Bond yielding 6% before tax, and the interest can be reinvested at 6% before tax. The taxable bond and reinvested earnings will accumulate at an after-tax rate of 4.32% [(1 – .28) × .06] to equal $12,355 at the end of 5 years [$10,000 × (1.0432)5 = $10,000 × 1.2355 = $12,355]. A series EE bond that will have a maturity value of $13,070 (a 5.5% before-tax rate of return.) 10000*5.5%^5 = 13,070 The income from the Series EE bond will not be taxed until maturity in five years, and the after-tax value will be $12,210 [$13,070 – .28($13,070 – $10,000)]. $13,070 - .28*3070 $13,070 - 859.6
Thus, the after-tax proceeds from the land must exceed $12,355. Because the gain on the land will be taxed as long-term capital gain, the sales proceeds less 15% of the appreciation must exceed $12,355. $10,000 + (1 – .15)(X – $10,000) = $12,356 $10,000 + .85x – $8,500 = $12,356 .85x = $10,856 x = $12,772. Thus, the land must increase in value by at least $2,772 to yield a greater after-tax return than the investment in either of the bonds. It should be noted if the land increases in value to $12,772, it will have a smaller before-tax value than the Series EE bond, but the land will have a greater after-tax value. The greater after-tax value of the land results from the lower tax rate. Thus, the tax rate and the timing of the tax payments are determinants of the after-tax rate of return from an investment. pp. 4-4 to 4-6, 4-36, and 4-37
29. Determine the taxpayer’s gross income for tax purposes in each of the following situations: