On January 1, 2014, DWW borrowed $400,000 cash and signed a one-year, 12 percent interest-bearing note payable.Assuming a 40 percent average income tax rate for DWW Corporation, the net effective interest rate on this note was:

Question

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The net effective interest rate takes into account the tax savings from the interest expense. The interest for the year is 12% of $400,000, which is $48,000. The tax savings on this interest expense is 40% of $48,000, which is $19,200. Therefore, the net interest expense is $48,000 - $19,200 = $28,800. The net effective interest rate is the net interest expense divided by the loan amount: $28,800 / $400,000 = 7.2%.

On January 1, 2014, DWW Borrowed $400,000 Cash and Signed