Tax saved and tax allowable depreciation

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    nancy621
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    Why is there when calculating the investment appraisal sometimes need to take into account of tax allowable depreciation and sometimes do not have?

    But do not consider the tax saved at the same time, ie. tax saved from tax allowable depreciation?


    Avatar of John Moffat
    John Moffat
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    If there is tax in the question (and assuming that you are told that tax allowable depreciation (or capital allowances) are available) then you should always bring it in.

    I think what you are referring to is the fact that you can deal with the tax in two ways (which will both give the same answer).

    Usually the best way is to calculate the tax payable on the operating cash flows, and then calculate separately the tax saving on the depreciation.

    Alternatively, (but usually meaning more work) is you can subtract the depreciation from the operating cash flows, then calculate the tax, but then add back the depreciation because it is not a cash flow itself.


    Avatar of Saline
    Saline
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    I agree that the best way is to calculate the tax payable on operating cash flows, and then calculate separately the tax savings on the depreciation.

    But if I use the second method in the question NEPTUNE June 2008. So can you let me know how to do that because if I subtract depreciation from operating cashflow then they become negative cashflows, there is again an issue to calculate tax on negative cashflow as there won’t be any tax.


    Avatar of Saline
    Saline
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    • Topics: 20
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    I agree that the best way is to calculate the tax payable on operating cash flows, and then calculate separately the tax savings on the depreciation.

    But if I use the second method in the question NEPTUNE June 2008. So can you let me know how to do that because if I subtract depreciation from operating cashflow then they become negative cashflows, there is again an issue to calculate tax on negative cashflow as there won’t be any tax.


    Avatar of John Moffat
    John Moffat
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    We always assume that the company is already paying tax due to existing profits.

    Therefore if you get a negative cash flow from a project it will mean that the existing profits will reduce, therefore less tax payable – i.e. a tax saving will result.

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