A division of Midland Oil & Gas has a TI of $8.95 million for a tax year. If the state tax rate averages 5% for all states in which the corporation operates, find the equivalent after-tax ROR required of projects that are justified only if they can demonstrate a before-tax return of 22% per year.
What will be an ideal response?
Calculate taxes using Table 17-1 rates; the average tax rate Te; then after-tax ROR
Income taxes = 113,900 + 0.34(8,950,000 - 335,000)
= 113,900 + 2,929,100
= $3,043,000
Average tax rate = taxes /TI = 3,043,000/8,950,000 = 0.34
Te = 0.05 + (1 - 0.05)(0.34) = 0.373
After-tax ROR = (before-tax ROR)(1-Te)
= 0.22(1 – 0.373)
= 0.138
A before-tax ROR of 22% is equivalent to an after-tax ROR of 13.8%
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