If a firm borrows $50 million for one year at an interest rate of 10 percent, what is the present value of the interest tax shield? Assume a 30 percent marginal corporate tax rate.
A)$1.36 million
B)$1.50 million
C)$1 million
D)$4.55 million

Question

Quizplus · Accepted Answer

The interest tax shield is equal to the amount of interest paid multiplied by the corporate tax rate. Here, the interest paid is $50 million x 10% = $5 million. 
The tax shield is $5 million x 30% = $1.5 million. 
However, this is the value of the tax shield at the end of the year, so we need to calculate its present value. 
Using the formula PV = FV / (1 + r) ^ t, where FV is the future value, r is the discount rate, and t is the number of years, we get:
PV = $1.5 million / (1 + 10%) ^ 1 
PV = $1.36 million. 
Therefore, the best choice is A) $1.36 million.

If a Firm Borrows $50 Million for One Year at an Interest