In Modigliani and Miller's model with taxes, a firm's value increases with added leverage. That increase comes from a "tax shield" created by the fact that interest is tax deductible. Therefore, debt increases the firm's value by the amount of that debt times one minus the tax rate (1 - T).

Question

Quizplus · Accepted Answer

In Modigliani and Miller's model with taxes, the increase in firm value due to leverage is actually the debt amount multiplied by the tax rate (T), not one minus the tax rate (1 - T).

In Modigliani and Miller's Model with Taxes, a Firm's Value