j. Assume that you are in the 25 percent marginal tax bracket and that you have $5,000 to invest. You have narrowed your investment choices down to bonds with a yield of 7 percent or equally risky ExxonMobil bonds with a yield of 10 percent. Which one should you choose and why? At what marginal tax rate would you be indifferent to the choice between and ExxonMobil bonds? Answer: After-tax return income at t = 25%: ExxonMobil = 0.10($5,000) - (0.10)($5,000)(0.25) = $375. = 0.07($5,000) - $0 = $350. Alternatively, calculate after-tax yields: A-T yieldExxonMobil = 10.0%(1 - t) = 10%(1 - 0.25) = 7.5%. A-T yieldCalif. = 7.0%. At what marginal tax rate would you be indifferent? 7.0% = 10.0%(1 - t). Solve for t. 7.0% = 10.0% - 10.0%(t) 10.0%(t) = 3% t = 30%.
j. Assume that you are in the 25 percent marginal tax bracket and that you have $5,000 to invest. You have narrowed your investment choices down to bonds with a yield of 7 percent or equally risky ExxonMobil bonds with a yield of 10 percent. Which one should you choose and why? At what marginal tax rate would you be indifferent to the choice between and ExxonMobil bonds? Answer: After-tax return income at t = 25%: ExxonMobil = 0.10($5,000) - (0.10)($5,000)(0.25) = $375. = 0.07($5,000) - $0 = $350. Alternatively, calculate after-tax yields: A-T yieldExxonMobil = 10.0%(1 - t) = 10%(1 - 0.25) = 7.5%. A-T yieldCalif. = 7.0%. At what marginal tax rate would you be indifferent? 7.0% = 10.0%(1 - t). Solve for t. 7.0% = 10.0% - 10.0%(t) 10.0%(t) = 3% t = 30%.
FM14e_SM_Ch02.docx