Question

A start-up firm is making an initial investment in new plant and equipment. Assume that currently its equipment must be depreciated on a straight-line basis over 10 years, but Congress is considering legislation that would require the firm to depreciate the equipment over 7 years. If the legislation becomes law, which of the following would occur in the year following the change?

Select one:

a. The firm’s operating income (EBIT) would increase.

b. The firm’s tax payments would increase.

c. The firm’s net cash flow would decrease.

d. The company’s depreciation would increase.

e. The firm’s taxable income would increase.

Answer 1

Answer -

	Explanation
If the legislation becomes law then the company’s depreciation would increase.	Suppose plant and equipment cost = $700. Depreciation expense when equipment depreciated on a straight-line basis over 10 years = ($700 / 10 years) = $70. Depreciation expense when equipment depreciated on a straight-line basis over 7 years = ($700 / 7 years) = $100. Depreciation expense would increases by $30 ($100 - $70), due to change.

Hence, Option - (d) is Correct.