Question
Suppose a project financed via an issue of debt requires five annual interest payments of $18...
Suppose a project financed via an issue of debt requires five annual interest payments of $18 million each year. If the tax rate is 30% and the cost of debt is 5%, what is the value of the interest rate tax shield? O A. $18.7 million OB. $46.8 million OC. $28.1 million OD. $23.4 million
Answers
Given,
Annual interest payment = $18 million
Number of annual payments (n) = 5
Tax rate = 30%
Cost of debt (r) = 5% or 0.05
Solution :-
Annual interest tax shield (A) = Annual interest payment x tax rate
= $18 million x 30% = $5.4 million
Now,
Value of interest rate tax shield
= A/r x [1 - (1 + r)-n]
= $5.4 million/0.05 x [1 - (1 + 0.05)-5]
= $108 million x [1 - (1.05)-5]
= $108 million x [1 - 0.78352616646]
= $108 million x 0.21647383354
= $23.4 million
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