Suppose a foreign investor who holds tax-exempt Eurobonds paying 9% is considering investing in an equivalent-risk domestic bond in a country with a 28% withholding tax on interest paid to foreigners.If 9% after-tax is the investor's required return, what before-tax rate would the domestic bond need to pay to provide the required after-tax return?

Question

Quizplus · Accepted Answer

To maintain a 9% after-tax return in the face of a 28% withholding tax, the before-tax interest rate needs to be calculated using the formula: required return = before-tax return * (1 - tax rate). Rearranging to solve for the before-tax return gives: before-tax return = required return / (1 - tax rate) = 9% / (1 - 0.28) = 9% / 0.72 = 12.5%.

Suppose a Foreign Investor Who Holds Tax-Exempt Eurobonds Paying 9