Question

Markov Manufacturing recently spent $ 10.8 million to purchase some equipment used in the manufacture of disk drives. The firm expects that this equipment will have a useful life of five​ years, and its marginal corporate tax rate is 21 %. The company plans to use​ straight-line depreciation.

a. What is the annual depreciation expense associated with this​ equipment?

b. What is the annual depreciation tax​ shield?

c. Rather than​ straight-line depreciation, suppose Markov will use the MACRS depreciation method for the​ five-year life of the property. Calculate the depreciation tax shield each year for this equipment under this accelerated depreciation schedule.

d. If Markov has a choice between​ straight-line and MACRS depreciation​ schedules, and its marginal corporate tax rate is expected to remain​ constant, which schedule should it​ choose? Why?

e. How might your answer to part ​(d​) change if Markov anticipates that its marginal corporate tax rate will increase substantially over the next five​ years?

f. Under the TCJA of​ 2017, Markov has the option to take​ 100% "Bonus" depreciation in the year in which the equipment is put into use. This means that in that​ year, Markov would take the full depreciation expense equivalent to the cost of buying the equipment. Rather than​ straight-line depreciation, suppose Markov will use the bonus depreciation method. Calculate the depreciation tax shield each year for this equipment with bonus depreciation.

g. If Markov has a choice between​ straight-line, MACRS and bonus depreciation​ schedules, and its marginal corporate tax rate is expected to remain​ constant, which schedule should it​ choose? Why?

h. How might your answer to part ​(g​) change if Markov anticipates that its marginal corporate tax rate will increase substantially over the next five​ years? Note​: Assume that the equipment is put into use in year 1.

Answer 1

As per rules I am answering the first 4 subparts of the question- A-D

	PART A	PART B	PART C
Year	Straight Line	Tax shield	MACRS
0
1	2160000	453600	2160000
2	2160000	453600	3456000
3	2160000	453600	2073600
4	2160000	453600	1244160
5	2160000	453600	1244160

PART D: Select the MACRS depreciation since the expense is higher in earlier years leading to greater tax shield in earlier years. This makes the NPV of the MACRS method higher than straight line.

AutoSave © of HO- Book1 - Excel Sign in - o X File Home Insert Draw Page Layout Formulas Data Review View Help O Tell me what you want to do Share Comments = = Calibri B I U - 11 - - A À - A - = dan ab E 3- General $ - % 9 Insert Delete - Format T- Paste Conditional Format as Formatting Table Cell Styles Sort & Find & Filter - Select Clipboard Font Alignment Number Styles Cells Editing A1 A1 x v fx ДА В H - PARTA Straight Line PART B Tax shield PARTC MACRS Year =10800000/5 =10800000/5 =10800000/5 =10800000/5 =10800000/5 =C4*21% C5*21% =C6*21% =C7*21% =C8*21% =10800000* 20% =10800000*32% =10800000*19.2% =10800000*11.52% =10800000*11.52% horoo~ 16