Loretta plans to start a small business,operated through a corporation.In year 0,she expects the corporation to generate a loss of $100,000.Subsequently,she expects the corporation to be profitable,and projects profit of $150,000 in year 1,and $250,000 in year 2.Using Appendix A and a 10% discount rate,calculate the present value of expected tax savings and costs on the business earnings for the first 3 years of operations if the business does not make an S corporation election.
A)$52,910 total tax cost
B)$88,250 total tax cost
C)$94,350 total tax cost
D)$118,800 total tax cost

Question

Quizplus · Accepted Answer

The present value of expected tax savings and costs on the business earnings for the first 3 years of operations if the business does not make an S corporation election is $52,910. This is calculated by taking the present value of the tax savings in year 1 and year 2, and subtracting the present value of the tax cost in year 0. The tax savings in year 1 is $150,000 * 0.35 = $52,500. The tax savings in year 2 is $250,000 * 0.35 = $87,500. The tax cost in year 0 is $100,000 * 0.35 = $35,000. The present value of the tax savings in year 1 is $52,500 / (1 + 0.1)^1 = $47,727.27. The present value of the tax savings in year 2 is $87,500 / (1 + 0.1)^2 = $75,187.97. The present value of the tax cost in year 0 is $35,000 / (1 + 0.1)^0 = $35,000. Therefore, the present value of expected tax savings and costs on the business earnings for the first 3 years of operations if the business does not make an S corporation election is $47,727.27 + $75,187.97 - $35,000 = $52,910.

Loretta Plans to Start a Small Business,operated Through a Corporation