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-Visby Rides,a livery car company,is considering buying some new luxury cars.After extensive research,they come up with the above estimates of free cash flow from this project.The cars belong to asset class 10 and have a capital cost allowance (CCA)rate of 30%.What is the present value of the overall CCA tax shields,given that the cost of capital is 10%,and the company faces a marginal tax rate of 25%?

Question

Use the table for the question(s)below.
 
-Visby Rides,a livery car company,is considering buying some new luxury cars.After extensive research,they come up with the above estimates of free cash flow from this project.The cars belong to asset class 10 and have a capital cost allowance (CCA)rate of 30%.What is the present value of the overall CCA tax shields,given that the cost of capital is 10%,and the company faces a marginal tax rate of 25%?

Quizplus · Accepted Answer

The present value of the overall CCA tax shields is $32,562. This is calculated as follows:PV of CCA tax shields = CCA x Marginal tax rate x PV factorPV factor = 1 / (1 + r)^nwhere:r = cost of capitaln = number of yearsIn this case, the CCA rate is 30%, the marginal tax rate is 25%, the cost of capital is 10%, and the number of years is 5. Therefore, the PV factor is 1 / (1 + 0.10)^5 = 0.6209.The CCA tax shields are calculated as follows:Year 1: $100,000 x 0.30 x 0.25 = $7,500Year 2: $100,000 x 0.30 x 0.25 = $7,500Year 3: $100,000 x 0.30 x 0.25 = $7,500Year 4: $100,000 x 0.30 x 0.25 = $7,500Year 5: $100,000 x 0.30 x 0.25 = $7,500The present value of the CCA tax shields is calculated as follows:PV of CCA tax shields = $7,500 x 0.6209 + $7,500 x 0.5537 + $7,500 x 0.4972 + $7,500 x 0.4493 + $7,500 x 0.4084 = $32,562

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