The present value of a perpetual tax shield increases as the firm's tax rate _____ and as the amount of the debt_____.

Question

Quizplus · Accepted Answer

The present value of the perpetual tax shield is calculated by multiplying the tax shield by the present value factor. The tax shield is the tax saving that results from the tax-deductibility of interest payments on debt. A higher tax rate means a greater tax shield and thus increases the present value of the tax shield. Furthermore, according to the formula, the present value of the tax shield decreases as the cost of debt increases. As the amount of the debt increases, the tax shield also increases, which results in a higher present value of the perpetual tax shield.

The Present Value of a Perpetual Tax Shield Increases as the Firm's