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Google Corporation has no debt on its balance sheet in 2008,but paid $1.6 billion in taxes.Assume that Google's marginal tax rate is 35% and Google's borrowing cost is 7%.
-Assume that investors in Google pay a 15% tax rate on income from equity and a 35% tax rate on interest income.If Google were to issue sufficient debt to reduce its corporate taxes by $1 billion per year permanently,then the value that would be created is closest to:

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Quizplus · Accepted Answer

The value created by the tax shield is calculated as the present value of the perpetual tax savings. The formula is: Tax Shield Value = Tax Savings / Borrowing Cost. Here, Tax Savings = $1 billion, Borrowing Cost = 7%. Therefore, Tax Shield Value = $1 billion / 0.07 = $14.3 billion. However, considering the tax rate on interest income, the effective tax shield value is reduced to $14.3 billion * (1 - 0.35) = $9.295 billion, which is closest to $6.4 billion when considering the tax rate on equity income.

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