Layer Corporation has provided the following information concerning a capital budgeting project: The company's income tax rate is 30% and its after-tax discount rate is 8%. The working capital would be required immediately and would be released for use elsewhere at the end of the project. The company uses straight-line depreciation on all equipment. Assume cash flows occur at the end of the year except for the initial investments. The company takes income taxes into account in its capital budgeting.The income tax expense in year 2 is:

A) $3,000
B) $9,000
C) $21,000
D) $6,000

Question

Layer Corporation has provided the following information concerning a capital budgeting project:

The company's income tax rate is 30% and its after-tax discount rate is 8%. The working capital would be required immediately and would be released for use elsewhere at the end of the project. The company uses straight-line depreciation on all equipment. Assume cash flows occur at the end of the year except for the initial investments. The company takes income taxes into account in its capital budgeting.The income tax expense in year 2 is:

A) $3,000
B) $9,000
C) $21,000
D) $6,000

Michael Gallegos · Accepted Answer

Final Answer : B, Explanation :  To calculate the income tax expense in year 2, first we need to calculate the taxable income in year 2.The cash inflows in year 2 are $27,000 and the depreciation expense in year 2 is ($75,000/3) = $25,000. Therefore, the taxable income in year 2 is:Taxable income Year 2 = $27,000 - $25,000 = $2,000The income tax rate is 30%, so the income tax expense in year 2 is:Income Tax Expense Year 2 = $2,000 x 30% = $6000Therefore, the correct answer is B.

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