Question

# Question 7 You bought a 10-year, 5% coupon bond for \$1,000 and sold it 1 year...

Question 7

You bought a 10-year, 5% coupon bond for \$1,000 and sold it 1 year later for \$1,050.

What is the rate of return on your investment if the bond pays interest annually?

If your marginal tax rate is 35%, and 50% of capital gains are taxable, what is the after-tax rate of return on your bond investment?

ROI = [Int Income + Capital gain] / Investment

Int Income = face Value * Coupon rate

= \$ 1000 * 5% = \$ 50

capital gain = Sale value - Purchase value

a.

ROI = [Int Income + Capital gain] / Investment

\$ 1050 - \$ 1000 = \$ 50

= [(\$1000*5%)+ (\$1050 - \$1000)]/ \$ 1000

= [ \$50 + \$ 50 ] / \$ 1000

= \$ 100 / \$ 1000

= 0.10 i.e 10%

ROI after tax = [Int Income after tax + Capital gain after tax] / Investment

Int Income after Tax = Int Income * (1 - Tax rate )

= \$ 50 * (1 - 0.35)

= \$ 50 *0.65

= \$ 32.5

capital gain after tax = capital Gain (1 - Capital Gain tax rate)

= \$ 50*(1-0.50)

=\$50*0.50

= \$ 25

ROI after tax = [Int Income after tax + Capital gain after tax] / Investment

= [\$ 32.5 + \$ 25 ] / \$ 1000

= \$ 57.5 / \$ 1000

= 0.0575 i.e 5.75%

After tax rate of return is 5.75%

Pls comment, if further assitance is required

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