Question

Matt recently deposited $24,500 in a savings account paying a guaranteed interest rate of 3 percent for the next 10 years.

Required:

1. If Matt expects his marginal tax rate to be 22.00 percent for the next 10 years, how much interest will he earn after-tax interest for the first year of his investment?
2. How much interest will he earn after-tax interest for the second year of his investment if he withdraws enough cash every year to pay the tax on the interest he earns?
3. How much will he have in the account after 4 years?
4. How much will he have in the account after 7 years?

Answer 1

1. After tax interest for 1st year = 24,500 *3% *(1-0.22) => 573.3

2. After tax interest for second year if tax amount has been withdrawn.

Principal after tax = 24500 + 573.3 => 25,072.3

After tax interest for 2nd year = 25,072.3 *3% *(1-0.22) => 586.72

3. Amount in account after 4 years, due to absence of information it is assumed that tax is not paid from the amount of interest earned annually.

24,500 * (1.03)^4 => 27,575 before tax.

4. Amount in account after 7 years, due to absence of information it is assumed that tax is not paid from the amount of interest earned annually.

24,500 * (1.03)^7 => 30,132 before tax.

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