Last year Tiemann Technologies reported $10,500 of sales,$6,250 of operating costs other than depreciation,and $1,300 of depreciation.The company had no amortization charges,it had $5,000 of bonds that carry a 6.5% interest rate,and its combined federal and provincial income tax rate was 35%.This year's data are expected to remain unchanged except for one item,depreciation,which is expected to increase by $750.By how much will net after-tax income change as a result of the change in depreciation? The company uses the same depreciation calculations for tax and stockholder reporting purposes.

Question

Quizplus · Accepted Answer

First, we need to calculate the earnings before interest and taxes (EBIT) for this year:

EBIT = Sales - Operating Costs - Depreciation
EBIT = $10,500 - $6,250 - $2,050
EBIT = $2,200

Next, we need to calculate the interest expense:

Interest Expense = Bond Amount x Interest Rate
Interest Expense = $5,000 x 6.5%
Interest Expense = $325

Now, we can calculate the taxable income:

Taxable Income = EBIT - Interest Expense - Depreciation
Taxable Income = $2,200 - $325 - $2,050
Taxable Income = $825

Finally, we can calculate the net after-tax income:

Net Income = Taxable Income x (1 - Tax Rate)
Net Income = $825 x (1 - 0.35)
Net Income = $536.25

With the increase in depreciation of $750, the new taxable income would be:

Taxable Income = EBIT - Interest Expense - (Depreciation + Increase in Depreciation)
Taxable Income = $2,200 - $325 - ($2,050 + $750)
Taxable Income = $75

And the new net after-tax income would be:

Net Income = Taxable Income x (1 - Tax Rate)
Net Income = $75 x (1 - 0.35)
Net Income = $48.75

The change in net after-tax income would be:

Change in Net Income = New Net Income - Original Net Income
Change in Net Income = $48.75 - $536.25
Change in Net Income = -$487.50

Therefore, the net after-tax income would decrease by $487.50. The best choice is B.

Last Year Tiemann Technologies Reported $10,500 of Sales,$6,250 of Operating