A company has taxable income from other sources of $58,000 per year. It is considering the...

A company has taxable income from other sources of $58,000 per year. It is considering the purchase of a front-end loader truck that costs $70,000 and has an estimated salvage value of $10,000 at the end of 5 years useful life. The company has an incremental state income tax rate of 8%.

A) Compute the MACRS depreciation schedule and any taxable gain or loss when the truck is sold. What is this taxable gain called?

B) If the purchasing company’s taxable income remained at $58,000 from all other sources in the year that the truck was sold, how much extra would the company have to pay in corporate income taxes (Federal+State) because of the additional taxable income from the truck sale?

C)The company’s cost of money is 8%, and they add 4 percentage points to get a MARR of 12%. If the truck were to reduce labor costs by $15,000/year for each of its five useful years, should the company buy it?

Expert Solution

A-
MACRS depreciation Schedule
Year	cost of truck	MACRS rate	annual depreciation
1	70000	20%	14000
2	70000	32%	22400
3	70000	19.20%	13440
4	70000	11.52%	8064
5	70000	11.52%	8064
total accumulated depreciation			65968
cost of truck			70000
book value of truck	70000-65968		4032
sale price at the end of year 5			10000
gain on disposal of truck	10000-4032		5968
Taxable gain is called - gain on disposal of truck
B-
Income tax on taxable income	58000*8%	4640
income tax on taxable income + capital gain on disposal of truck	(58000+5968)*8%	5117.44
additional difference in income tax due to capital gain	5117.44-4640	477.44
C-
Year	annual savings	less depreciation	annual saving after depreciation	annual savings after tax = annual saving after depreciation*(1-tax rate)	annual savings after tax before depreciation= annual saving after depreciation*(1-tax rate) + Depreciation	present value of annual savings after tax before depreciation = annual savings/(1+r)^n r = 12%
0	-70000					-70000
1	15000	14000	1000	920	14920	13321.42857
2	15000	22400	-7400	-6808	15592	12429.84694
3	15000	13440	1560	1435.2	14875.2	10587.87354
4	15000	8064	6936	6381.12	14445.12	9180.134905
5	15000	8064	6936	6381.12	14445.12	8196.549022
5	5968				5968	3386.403475
NPV	sum of present value of annual savings					-12897.7635
truck should not be purchased as it results in negative NPV

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