Question

Impressive Services is now at the end of the final year of a project. The equipment originally cost $80,000, of which 90% has been depreciated. The firm can sell the used equipment today for $5,000, and its tax rate is 22%. What is the equipment’s after-tax salvage value for use in a capital budgeting analysis? Note that if the equipment's final market value is less than its book value, the firm will receive a tax credit as a result of the sale.

Answer 1

The after tax cash flow is computed as shown below:

= Sales value + tax savings on loss

Tax expense is computed as follows:

Book value is computed as follows:

= Purchase price - Depreciation till 2 years

= $ 80,000 - $ 80,000 x 90%

= $ 8,000

So, the loss on sale is computed as follows:

= Sales value - book value

= $ 5,000 - $ 8,000

= $ 3,000

So, the tax saving on loss will be computed as follows:

= Loss amount x tax rate

= $ 3,000 x 22%

= $ 660

So, the after tax sales value will be computed as follows:

= $ 5,000 + $ 660

= $ 5,660 Approximately

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