Suppose a project financed via an issue of debt requires six annual interest payments of $20 million each year.If the tax rate is 30% and the cost of debt is 8%,what is the value of the interest rate tax shield?
A)$31.35 million
B)$27.74 million
C)$23.20 million
D)$32.64 million

Question

Quizplus · Accepted Answer

The value of the interest rate tax shield can be calculated as follows:

Value of tax shield = tax rate x annual interest payments
Value of tax shield = 0.30 x (6 x $20 million)
Value of tax shield = $36 million

However, this tax shield is received over a period of six years, so we need to calculate the present value of the tax shield using the formula:

Present value = tax shield / (1 + cost of debt)^t

where t is the time period in years.

Using a financial calculator or spreadsheet, we can calculate the present value of the tax shield to be $27.74 million (rounded to two decimal places).

Therefore, the best choice is B, $27.74 million.

Suppose a Project Financed Via an Issue of Debt Requires