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AFTER-TAX COST OF DEBT The Holmes Company’s currently outstanding bonds have an 8% coupon and a 10% yield to maturity. Holmes believes it could issue new bonds at par that would provide a similar yield to maturity. If its marginal tax rate is 40%, what is Holmes’ after-tax cost of debt?
To identify: The after-tax cost of debt.
Introduction:
After-Tax Cost of Debt:
It can be defined as relevant cost of the new debt by considering the tax deductibility in interest. It is the cost of debt after tax savings. The interest on the debt is tax deductible. The tax can be saved on the interest paid on the debt. It is used to compute the weighted average cost of capital.
Given information:
Before-tax cost of debt is 10% or 0.10.
Tax rate is 40% or 0.40.
The formula to calculate after-tax cost of debt is,
Where,
-
- t is the tax rate.
Substitute 0
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