Suppose a machine costs $20,000 now,has an expected life of eight years,and will require a $7,000 overhaul at the end of the third year.If the tax rate is 40%,what would be the after-tax cost of this overhaul?

Question

Quizplus · Accepted Answer

To calculate the after-tax cost of the overhaul, we need to first calculate the depreciation of the machine over the first three years, which can be done using the straight-line method:

Depreciation per year = (Cost - Salvage value) / Expected life 
Depreciation per year = ($20,000 - $0) / 8 = $2,500

Depreciation over 3 years = $2,500 * 3 = $7,500

The adjusted basis of the machine at the end of the third year will be:

Adjusted basis = Cost - Accumulated depreciation 
Adjusted basis = $20,000 - $7,500 = $12,500

Now, we can calculate the taxable gain or loss from the overhaul:

Taxable gain or loss = Overhaul cost - (Adjusted basis - Accumulated depreciation) 
Taxable gain or loss = $7,000 - ($12,500 - $7,500) = $3,000

Since the tax rate is 40%, the after-tax cost of the overhaul will be:

After-tax cost = Overhaul cost - (Taxable gain or loss * Tax rate) 
After-tax cost = $7,000 - ($3,000 * 0.4) = $4,200

Therefore, the answer is B: $4,200.

Suppose a Machine Costs $20,000 Now,has an Expected Life of Eight