Rush Corporation plans to acquire production equipment for $612,500 that will be
ID: 2531872 • Letter: R
Question
Rush Corporation plans to acquire production equipment for $612,500 that will be depreciated for tax purposes as follows: year 1, $122,500; year 2, $212,500; and in each of years 3 through 5, $92,500 per year. A 14 percent discount rate is appropriate for this asset, and the company’s tax rate is 40 percent. Use Exhibit A.8 and Exhibit A.9. Required: a. Compute the present value of the tax shield resulting from depreciation. (Round PV factor to 3 decimal places and other intermediate calculations to nearest whole number.) b. Compute the present value of the tax shield from depreciation assuming straight-line depreciation ($122,500 per year). (Round PV factor to 3 decimal places and other intermediate calculations to nearest whole number.)
Explanation / Answer
Part a Calculation of present value of tax shielding resulting from depreciation Year Dep. Tax @ 40% Tax Shielding P.V. Factor @14% Present Value 1 $ 122,500 $ 49,000 $ 73,500 0.877 $ 64,460 2 $ 212,500 $ 85,000 $ 127,500 0.769 $ 98,048 3 $ 92,500 $ 37,000 $ 55,500 0.675 $ 37,463 4 $ 92,500 $ 37,000 $ 55,500 0.592 $ 32,856 5 $ 92,500 $ 37,000 $ 55,500 0.519 $ 28,805 Total $ 612,500 $ 245,000 $ 367,500 $ 261,630 Part b If Depreciation is calculated using straight line method Depreciation = 612500 /5 = $122500 Year Dep. Tax @ 40% Tax Shielding P.V. Factor @14% Present Value 1 $ 122,500 $ 49,000 $ 73,500 0.877 $ 64,460 2 $ 122,500 $ 49,000 $ 73,500 0.769 $ 56,522 3 $ 122,500 $ 49,000 $ 73,500 0.675 $ 49,613 4 $ 122,500 $ 49,000 $ 73,500 0.592 $ 43,512 5 $ 122,500 $ 49,000 $ 73,500 0.519 $ 38,147 Total $ 612,500 $ 245,000 $ 367,500 $ 252,252
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