Question

Antonio would like to replace his golf clubs with a​ custom-measured set. A local sporting goods megastore is advertising custom clubs for ​$900​, including a new bag.​ In-store financing is available at 2.23 ​percent, or he can choose not to renew his ​$600 certificate of deposit​ (CD), which just matured. The advertised CD renewal rate is 2.21 percent. Antonio knows the​ in-store financing costs would not affect his​ taxes, but he knows​ he'll pay taxes​ (25 percent federal and 5.75 percent​ state) on the CD interest earnings. Should he cash the CD or use the​ in-store financing?​ Why?

Answer 1

IT would be wiser for Antonio to cash the CD. Explanation:

Scenario 1- If cash the CD:

If he cash the CD, then will pay the 2.23% interest only on (900-600) i.e. $300 and he will not earn any interest as his CD account will be empty. Yearly Interest to be paid= $6.69

Scenario 2- If he doesn't cash the CD and renew it, use in-store financing

He will earn effective interest less than 2.21% (because he needs to pay 25% federal and 5.75% state on interest earnings) but he will pay 2.23% for the store finance.

Here net interest to be paid= 900*2.23%-600*2.21%*(25%+5.75%)= $16 (Approx)

As Interest payment is higher in the second case he should cash the CD.