Question

Q2: Your company is evaluating a new project that will require the purchase of an asset for $25,000

installed. The asset will be depreciated S/L for 5 years to zero salvage.

Your company is expecting the asset to have a market value of $4,000 at the end of 5 years.

The applicable tax rate is 30% and the cost of capital is 12%

a) Calculate the after tax asset value for the asset at the end of 5 years.

b) Calculate the gain or (loss) from the sale of the asset at the end of 5 years? (And indicate

whether it is a gain or a loss.

c) Calculate the tax consequences from the sale of the asset in 5 years and indicate whether it is a

tax liability or tax saving.

Answer 1

Part a

Book value at end of year 5 = 0

Selling price at end of year 5 = 4000

After tax asset value = (Selling price - Book value) * (1 - tax rate)

After tax asset value = (4000 - 0) * (1 - 30%)

After tax asset value = 2800

Part b

Gain = Selling price - Book value

Gain = 4000 - 0

Gain = 4000

Company has gained as selling price is higher than book value.

Part c

Tax = Gain * Tax rate

Tax = 4000 * 30%

Tax = 1200

As company have gained it has tax liability of $1200