If an all-equity firm has after-tax income of $100,000 based on a 34% income tax, what is the after-tax income of an equivalent firm that pays $15,000 in interest that is tax deductible?

Question

Quizplus · Accepted Answer

The interest is tax-deductible, so the taxable income is reduced by the interest amount. The equivalent firm's taxable income is $100,000 + $15,000 = $115,000. The tax is 34% of $115,000, which is $39,100. Therefore, the after-tax income is $115,000 - $39,100 = $75,900. Adding back the tax savings from the interest ($15,000 * 34% = $5,100), the after-tax income becomes $75,900 + $5,100 = $90,100.

If an All-Equity Firm Has After-Tax Income of $100,000 Based