Massive Amusements, an owner of theme parks, invests $65 million to build a roller coaster. This can be depreciated using the MACRS schedule shown above. How much less is the depreciation tax shield for year 4 under MACRS depreciation than under 7-year, straight-line depreciation, if the tax rate is 35%?

Question

Quizplus · Accepted Answer

Under MACRS, the depreciation percentages for the first four years are: 20.00%, 32.00%, 19.20% and 11.52%. Using this information, we can calculate that the total depreciation for the roller coaster over four years is $37,120,000.

Under straight-line depreciation with a 7-year life, the annual depreciation would be $9,285,714 ($65 million divided by 7).

Therefore, the total depreciation for four years would be $37,142,856.

The difference in the depreciation tax shield between the two methods is $22,856 ($9,285,714 x 35% x 4 - $37,120,000 x 35%).

However, we are asked about the difference in depreciation tax shield for year 4 only, which is the difference between the 19.20% MACRS depreciation rate and the 14.29% straight-line depreciation rate for year 4.

Using these rates, the MACRS depreciation for year 4 is $7,837,082 and the straight-line depreciation for year 4 is $9,285,714 x 14.29% = $1,325,714

Therefore, the difference in the depreciation tax shield for year 4 is $2,275,865 ($7,837,082 x 35% - $1,325,714 x 35%).

The closest answer choice is B) $1,218,350, which is the answer if we assume the question is asking for the difference in the total depreciation tax shield rather than the difference in the year 4 tax shield. However, if we assume that the question is only asking about the difference in the year 4 tax shield, then the answer is B) $2,275,865.

Massive Amusements, an Owner of Theme Parks, Invests $65 Million