Chapter 2

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Ryan Jobe Chapter 2 Problems 1-11 1. An investor recently purchased a corporate bond that yields 9%. The investor is in the 36% combined federal and state tax bracket. What is the bond’s after-tax yield? Corporate Bond yield is 9% The after tax yield is the return after taxes are deducted. Therefore the bonds after tax yield = 9% (1-T) = 9% (1-.36) Or 5.76% 2. Corporate bonds issued by Johnson Corporation currently yield 8%. Municipal bonds of equal risk currently yield 6%. At what tax rate would an investor be indifferent between these two bonds? You want the rate that equals the municipal tax exempt yield to the corporate after tax yield. 8% (1-T) = after tax corporate yield 6% = municipal tax exempt yield…show more content…
Assume the firm receives an additional $1 million of interest income from some bonds it owns. What is the tax on this interest income? Tax =.35 ($1,000,000) = $350,000 c. Now assume that Wendt does not receive the interest income but does receive an additional $1 million as dividends on some stock it owns. What is the tax on this dividend income? Tax = .35 (.30 * $1,000,000) Tax = .35 ($300,000) Tax = $105,000 9. The Shrieves Corporation has $10,000 that it plans to invest in marketable securities. It is choosing among AT&T bonds, which yield 7.5%, state of Florida municipal bonds, which yield 5% (but are not taxable), and AT&T preferred stock, with a dividend yield of 6%. Shrieves’s corporate tax rate is 35%, and 70% of the dividends received are tax exempt. Find the after-tax rates of return on all three securities. The after tax yield on the Florida Municipal bonds = 5% The after tax yield on the AT&T Corporate binds = 7.5% (1-.35) = 4.875% After tax yield AT&T preferred: $1,000 of preferred Annual Dividend: $1,000 * 6% = $60 $60 * 70% = $42 is exempt from taxes $60 - $42 = $18 is taxable, your tax is $18 * .35 = $6.30 Net after tax dividend = $60 - $6.30 = $53.70 Your after tax yield on of AT&T preferred = $53.70 / $1,000 = 5.37% AT&T preferred stock is the best alternative 10. The Moore Corporation has operating income (EBIT) of

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