Question

A company has a regular bond outstanding. The bond has 26 years to maturity. The face value of the bond is $1,000. The value of bond today (price) is $980.00. Coupons are paid annually. The coupon rate is 7.60%. The tax rate is 28.50%. What is the after tax rate of return on the bond (debt)?

Answer 1

Face Value = $1,000
Current Price = $980

Annual Coupon Rate = 7.60%
Annual Coupon = 7.60% * $1,000
Annual Coupon = $76

Time to Maturity = 26 years

Let Annual YTM be i%

$980 = $76 * PVIFA(i%, 26) + $1,000 * PVIF(i%, 26)

Using financial calculator:
N = 26
PV = -980
PMT = 76
FV = 1000

I = 7.781%

Annual YTM = 7.781%

Before-tax Cost of Debt = 7.781%
After-tax Cost of Debt = 7.781% * (1 - 0.2850)
After-tax Cost of Debt = 5.56%

Therefore, after-tax return on the bond is 5.56%