Assume that Jose is indifferent between investing in a corporate bond that pays 10 percent interest and a stock with no growth potential that pays an 10.4 percent dividend yield. Assume that the tax rate on dividends is 15 percent. What is Jose's marginal tax rate? (Do not round intermediate computations.)
A)26.84 percent
B)17.08 percent
C)11.60 percent
D)3)88 percent
E)None of the choices are correct.

Question

Quizplus · Accepted Answer

Since Jose is indifferent between investing in a bond that pays 10% interest and a stock with no growth potential that pays 10.4% dividend yield, it means that his after-tax return on the stock must be equal to the return on the bond.

Let's calculate his after-tax return on the stock: 
Dividend yield = 10.4%
Tax rate on dividends = 15%
After-tax dividend yield = (1 - tax rate) * dividend yield = (1 - 0.15) * 10.4% = 8.84%

Now we can set up an equation: 
10.4% (pre-tax dividend yield) * (1 - 15%) (tax rate) = 10% (bond interest yield)

Simplifying this equation, we get: 
0.104 * 0.85 = 0.10

This implies that his marginal tax rate is 11.60% [(0.104-0.10)/0.104*100%].

Therefore, the best choice is C.

Assume That Jose Is Indifferent Between Investing in a Corporate