Question

A newly issued bond pays its coupons once annually. Its coupon rate is 9.2%, its maturity is 20 years, and its yield to maturity is 11%. a. Find the holding-period return for a 1-year investment period if the bond is selling at a yield to maturity of 10% by the end of the year. (Do not round intermediate calculations. Round your answer to 2 decimal places.) Holding-period return b. If you sell the bond after one year, what taxes will you owe if the tax rate on interest income is 40% and the tax rate on capital gains income is 30%? The bond is subject to original-issue discount tax treatment. (Do not round intermediate calculations. Round your answers to 2 decimal places.) Tax on interest income Tax on capital gain Total taxes

Answer 1

(I have provided the solution for the maximum number of subparts allowed to be answered in one question by the policy.)

Solution:

Given,
Coupon rate =	9.20%
Maturity =	20
YTM =	11%
Face Value=	1000
Coupon Value = 9.2% * 1000 =	92

(A)
Price of bond at start = PV(11%,20,-92,-1000)	856.66
Given that at end of year bond is selling at ytm of 10%
Price of bond at end of year = PV(10%,19,-92,-1000)	933.08
Holding period return = [(Ending value + coupon payment - Starting Value)/Starting value]*100
Holding Period return = [(933.08+92-856.66)/856.66]*100=	19.66	%

(B)
Price of bond at end of year according to beginning YTM = PV(11%,19,-92,-1000)	858.89
Price of bond at end of year according to existing yield of 10% = PV(10%,19,-92,-1000)	933.08
Coupon Value = 9.2% * 1000 =	92
Total interest income according to original issue treatment = 92 + (858.89 - 856.66) =	94.23
Total Capital gain according to original issue treatment = 933.08 - 858.89 =	74.19
Tax on interest income = 40% * 94.23 =	37.69
Tax on capital gain = 30% * 74.19 =	22.26
Total Taxes = 37.69+22.26 =	59.95

(C)
Price of bond at start = PV(11%,20,-92,-1000)	856.66
Given that at end of year bond is selling at ytm of 10%
Price of bond at end of year = PV(10%,19,-92,-1000)	933.08
After tax Holding period return = [(Ending value + coupon payment - tax payment - Starting Value)/Starting value]*100
Holding Period return = [(933.08+92-856.66-59.95)/856.66]*100=	12.66	%