Bab 11 Income Taxes

8/13/2019 Bab 11 Income Taxes

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INCOME TAXES


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Taxable Income of Individuals The amount of federal income taxes to be paid

depends on taxable income and the income taxrates. To calculate taxable income, one must

first compute his or her gross income: Gross income = Wages, salary, etc

+ Interest income

+ Dividends

+ Capital gains

+ Unemployment compensation

+ Other income


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Taxable Income of Individuals 2) From gross income, we substract any allowable

retirement plan contributions and other adjustments. Theresult is adjusted gross income.

Adjusted Gross Income = Gross IncomeAdjustments.

Taxable Income = Adjusted gross income- Personal exemption(s)

- Itemized deductions or Standarddeduction


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Taxable Income of Individuals 3) Definition:

Personal Exemptions. One exemption is providedfor each person who depends on the gross income for

his or her living. Itemized Deduction. Some of these are:

Excessive medical and dental expenses (exceeding 7.5% ofadjusted gross income)

State and local income, property and personal property tax

Home mortgage interest Charitable contributions Miscellanous deductions (exceeding 2.5% of adjusted gross

income)


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Taxable Income of Individuals 4) Standard Deduction. Each taxpayer may

either itemize his or her deductions, or instead

take a standard deduction as follows: Single taxpayers, $ 3000

Married taxpayers filling a joint return, $ 5000


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Classification of BusinessExpenditure There are three distinct types of business

expenditures :

- Expenditures for depreciable assets;

- Expenditures for nondepreciable assets;

- All other business expenditures.

Taxable Income of Business Firms :

Taxable income = Gross income

- All expenditure except capital


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Computation of Taxable IncomeExample:

Tahun 1 Tahun 2 Tahun 3

Gross Income from sales $ 200 $ 200 $ 200

Purchase of special tooling

(useful life : 3 years) - 60 0 0All other expenditures - 140 - 140 - 140

Cash results for the year $ 0 $ 60 $ 60

Compute the taxable income for each of three years ?


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Example for Calculation of Taxable Income2) Solution:

All other Expendiyure = $ 140

Annual depreciation charge = = $ 20

Taxable Income = 20014020

= $ 40

3

060


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Income Tax rates


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Computation of Individual Tax RatesExample:

An unmarried student earned $3500 in the summer plusanother $1600 during the rest of the year. When he files anincome tax return, he will be allowed one exemption (for

himself). He estimates he spent $600 on allowable itemizeddeductions. How much income tax will he pay?

Solution:

Adjustable gross income = $3500 + 1600= $5100

Taxable income = 510019503000 = $ 150

Federal income tax = 15% x 150 = $22,5


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Corporate Tax Rates


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Computation of Corporate Tax RatesExample:The French Chemical Corporation was formed toproduce household bleach. The firm bought land for$220.000, had a $900.000 factory building erected, andinstalled $650.000 worth of chemical and packaging

equipment. The plant was completed and operationsbegun on April 1st. The gross income for the calendaryear was $450.000. Supplies and all operatingexpenses, excluding the capital expenditures, were$100.000. The firm will use accelerated cost recoverysystem (ACRS) depreciation.a. What is the first year depreciation charge ?b. What is the first year taxable income?c. How much will the corporation pay in federal income

taxes for the year?


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Computation of Corporate Tax Rates 2)Solution:

a. ACRS Depreciation:

Chemical equipmentis personal property. From Table, itis probably in the Seven-year, all other property class.

First-year depreciation = $650.000 x 14,28%

= $ 92.820

The building is in the 31,5-year real property class. Beingplaced in service April 1st, the appropriate

First-year depreciation = $900.000 x 2,25%= $ 20.250

The land is a nondepreciable asset.

Total first-year ACRS depreciation = $ 92.820 + 20.250

= $ 113.070


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Computation of Corporate Tax Rates 3)b. Taxable Income

= $450.000100.000113.070 =

$236.930

c. Federal Income Tax

= $ 22.250 + 39%(236.930 -100.000) = $75.653


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Combined Federal and State Income Taxes In addition to federal income taxes, most individuals and

corporations also pay state income taxes. It would beconvinient if we could derive a single tax rate to represent boththe state and federal incremental tax rates.

For an increment of income (Income),

State income taxes = ( State tax rate)(Income)

Federal taxable income= (Income)(1- State tax rate)

Federal income taxes = ( Federal tax rate)(Income)(1- State tax rate)

The total of state and federal income taxes is

= [ State tax rate + ( Federal tax rate)(1- State tax rate)](Income)

Combined incremental tax rate

= State tax rate + ( Federal tax rate)(1- State tax rate)


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Computation of Combined Federal and StateIncome TaxesExample:

An engineer has an income that puts him in the 28%federal income taxes and 10% state incremental tax. He

has an opportunity to earn an extra $500 by doing asmall consulting job. What will be his combined state andfederal income tax rate on the additional income?

Solution:

Combined incremental tax rate= 0,1 + 0,28 (10,1)

= 35,2 %


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Economic Analysis Taking Income TaxesInto AccountExample:

An analysis of a firms sales activities indicates that a number of

profitable sales are lost each year because the firm cannotdeliver some of its products quickly enough. By investing anadditional $20000 in inventory it is believed that the before-tax

extra profit of the firm will be $1000 higher the first year. Thesecond year before-tax extra profit will be $1500. Subsequentyears are expected to continue ro increase on a $500 per eyargradient. The investment in the additional inventory may berecovered at the end of a four-year analysis period simply byselling it and not replenishing the inventory. Compute:

a. The before-tax rate of return

b. The after-tax rate of return assuming an incremental tax rateof 39%


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Economic Analysis Taking Income TaxesInto Account 2) Cash flow table for this case :


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Economic Analysis Taking Income TaxesInto Account 3) Before-tax rate of return:

20.000 = 1000(P/A,i,4) + 500(P/G,i,4) +20000(P/F,i,4)

Try i = 8%,

Try i = 10%,

)735,0(20000)65,4(500)312,3(100020000?

203371470023253312?

)683,0(20000)378,4(500)17,3(100020000?

190191366021893170

?


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Economic Analysis Taking Income TaxesInto Account 4) Before-tax rate of return =

After-tax rate of return:

The before-tax cash flow gradient is $500. The resultingafter-tax cash flow gradient is (1-0,39)(500) = $305

20.000 = 1000(P/A,i,4) + 305(P/G,i,4) + 20000(P/F,i,4)

Try i = 5%,

i is too low

Try i = 6%,

%5,81901920337

20000337,20%2%8

20173)8227,0(20000)103,5(305)546,3(61020000??

19304)7921,0(20000)4945,4(305)645,3(61020000??


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Economic Analysis Taking Income TaxesInto Account 5)After-tax rate of return =

Form both computation, we can see that income taxes

influence feasibility of a business. Therefore, income

taxes must be took into account of economic

analysis.

%2,51930420173

20000173,20%1%5


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Estimating the After-Tax Rate ofReturnThere is no shorcut method to compute the after-tax rate of

return from the before-tax rate of return. On possibleexception to this statement is in the situation of

nondepreciable assets. In this special case:After-tax ROR = (1-Incremental tax rate)(before-tax ROR)

For previous example, we could estimate the after-tax

rate of return from the before-tax of return as follows:

After-tax ROR = (1-0,39)(8,5%)

= 5,2%

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Bab 11 Income Taxes

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