Suppose a farmer is considering the purchase of additional farmland. It is belie
ID: 2799081 • Letter: S
Question
Suppose a farmer is considering the purchase of additional farmland. It is believed that the operating revenue per acre of land per year will be $760 and operating expenses will be $514 in present dollars. The inflation rate is expected to be 8% Assume that the marginal tax rate is 16% and that this farmer requires at least an 8% pre-tax, risk free return on capital.
(i) Calculate the nominal before-tax net returns at the end of year 1.
a.
$308.19
b.
$265.68
c.
$246.00
d.
$244.43
e. None of the answers are correct
(ii) Calculate the nominal after-tax net returns at the end of year 2.
a.
$279.59
b.
$221.74
c.
$241.02
d.
$223.17
e. None of the answers are correct
(iii) Calculate the nominal after-tax net returns at the end of year 3.
a.
$241.02
b.
$260.31
c.
$239.48
d.
$301.96
e. None of the answers are correct
a.
$308.19
b.
$265.68
c.
$246.00
d.
$244.43
Explanation / Answer
Real revenues=760
Real expenses=514
Real return=760-514=246
Nominal before-tax return at the end of year 1=real return*(1+inflation)=246*(1+8%)=265.68
Nominal after-tax return at the end of year 2=real return*(1+inflation)^2*(1-tax rate)=246*(1+8%)^2*(1-16%)=241.02
Nominal after-tax return at the end of year 3=real return*(1+inflation)^3*(1-tax rate)=246*(1+8%)^3*(1-16%)=260.31
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