INCOME TAX CH.3

Jonah has the choice of paying Rita $10,000 today or $40,000 in 10 years. Assume Jonah can earn a 12 percent after-tax rate of return. Which should he choose?

$10,000 today $40,000 in ten years is worth $12,880 today ($40,000 × 0.322 (Discount factor, 10 Year, 12 percent)). Thus, paying $10,000 today should be preferred over paying $40,000 (worth $12,880 today) in ten years.

Tawana owns and operates a sole proprietorship and has a 37 percent marginal tax rate. She provides her son, Jonathon, $8,000 a year for college expenses. Jonathon works as a pizza delivery person every fall and has a marginal tax rate of 15 percent. if Jonathon worked for his mother's sole proprietorship, what salary would she have to pay him to generate $8,000 after taxes (ignoring any Social Security, Medicare, or self-employment tax issues)?

$8,000 = Pretax income x (1 - .15)Pretax income = $8,000 / (.85) = $9,412

Tawana owns and operates a sole proprietorship and has a 37 percent marginal tax rate. She provides her son, Jonathon, $8,000 a year for college expenses. Jonathon works as a pizza delivery person every fall and has a marginal tax rate of 15 percent. How much pretax income does it currently take Tawana to generate the $8,000 (after taxes) given to Jonathon?

After-tax income = Pretax income x (1 - marginal tax rate)$8,000 = Pretax income x (1 - .37)Pretax income = $8,000 / (.63) = $12698

Tawana owns and operates a sole proprietorship and has a 37 percent marginal tax rate. She provides her son, Jonathon, $8,000 a year for college expenses. Jonathon works as a pizza delivery person every fall and has a marginal tax rate of 15 percent. a. What could Tawana do to reduce her family tax burden?

Employ her son in her sole proprietorship

Tawana owns and operates a sole proprietorship and has a 37 percent marginal tax rate. She provides her son, Jonathon, $8,000 a year for college expenses. Jonathon works as a pizza delivery person every fall and has a marginal tax rate of 15 percent. How much money would this strategy save?

This strategy will save Tawana $3286 After-tax income = Pretax income x (1 - marginal tax rate)$8,000 = Pretax income x (1 - .37)Pretax income = $8,000 / (.63) = $12698 $8,000 = Pretax income x (1 - .15)Pretax income = $8,000 / (.85) = $9,412 12698 - 9412 = $3286 Pretax and will save the family $2,071 after tax $9,412 x (37% -15%) = $2,071

Reese, a calendar-year taxpayer, uses the cash method of accounting for her sole proprietorship. In late December, she received a $20,000 bill from her accountant for consulting services related to her small business. Reese can pay the $20,000 bill anytime before January 30 of next year without penalty. Assume Reese's marginal tax rate is 32 percent this year and will be 37 percent next year, and that she can earn an after-tax rate of return of 12 percent on her investments. a. What is the after-tax cost if she pays the $20,000 bill in December? b. What is the after-tax cost if she pays the $20,000 bill in January?

a. 20,000 * 32% = 6400 20,000 - 6400 = 13,600 b. 20,000* 37% = 7400 Present Value of Tax = $7400 x .893 (Discount Factor, 1 Year, 12 percent) = $6608.2 After-tax income = Pretax income - Present Value Tax 20,000 - 6608.2 = 13,391.8

Manny, a calendar-year taxpayer, uses the cash method of accounting for his sole proprietorship. In late December he performed $20,000 of legal services for a client. Manny typically requires his clients to pay his bills immediately upon receipt. Assume Manny's marginal tax rate is 37 percent this year and next year, and that he can earn an after-tax rate of return of 12 percent on his investments. a. What is the after-tax income if Manny sends his client the bill in December? b. What is the after-tax income if Manny sends his client the bill in January?

a. 20,000 * 37% = 7400 20,000 - 7400 = 12,600 b. $20,000 taxable income x 37percent marginal tax rate = $7,400 in tax in one year. Present Value of Tax = $7400 x .893 (Discount Factor, 1 Year, 12 percent) = $6608.2 After-tax income = Pretax income - Present Value Tax 20,000 - 6608.2 = 13,391.8

Option 1: One state has a corporate tax rate of 10 percent. If operated in this state, the plant is expected to generate $1,000,000 pretax profit. Option 2: The other state has a corporate tax rate of 2 percent. If operated in this state, the plant is expected to generate $930,000 of pretax profit. a. What is the after state taxes profit in the state with the 10% tax rate? b. What is the after state taxes profit in the state with the 2% tax rate?

a. After Tax Profit in State with 10% Tax Rate: Pre Tax Profit = $1,000,000, Tax Rate = 10% Tax = 1,000,000 x 10% = $100,000 After State Tax Profit = 1,000,000- 100,000 = $900,000 b. After Tax Profit in State with 2% Tax Rate: Pre Tax Profit = $930,000, Tax Rate = 2% Tax = 930,000 x 2% = $18,600 After State Tax Profit = 930,000 - 18,600 = $911,400

Dennis is currently considering investing in municipal bonds that earn 6 percent interest, or in taxable bonds issued by the Coca-Cola Company that pay 8 percent. a. If Dennis's tax rate is 22 percent, which bond should he choose? b. Which bond should he choose if his tax rate is 32 percent? c. At what tax rate would he be indifferent between the bonds? d. What strategy is this decision based upon?

a. Taxable bonds b. Municipal bonds c. 25% 6 percent = 8 percent × (1 − Marginal tax rate) = 8 percent − (8 percent × Marginal tax rate) 8 percent × marginal tax rate = 2 percent Marginal tax rate = 2 percent / 8 percent = 25 percent d. Conversion planning strategy

Helen holds 1,000 shares of Fizbo Inc. stock that she purchased 11 months ago. The stock has done very well and has appreciated $20/share since Helen bought the stock. When sold, the stock will be taxed at capital gains rates (the long-term rate is 15 percent and the short-term rate is the taxpayer's marginal tax rate). Ignore the time value of money a. If Helen's marginal tax rate is 35 percent, how much would she save by holding the stock an additional month before selling? b. What might prevent Helen from waiting to sell?

per share increase in price = 20 no of shares = 1000 total capital gain = 1000*20 = 20000 Tax rate if hold one year more = 20000*15% = 3000 if sold immediately and taxed as short term capital gain 20000*35% = 7000 so if shares are held for more than a month a tax of (7000-3000)4000 can be saved. b. Helen bears additional risk selected answer correct if she holds the stock for an additional month. The stock price could decrease the selected answer to correct substantially if there is market volatility or if the company encounters financial difficulties. In addition, Helen may be selling the stock to generate cash flow selected answer correct for which she may be unwilling to wait.