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In questions with valuation of debt where a tax rate is given in the examination. should the tax be deducted from the yearly interest payment before discounting?
And while calculating cost of redeemable debt using IRR should this interest be net of tax?
Kindly help resolve matters above ASAP. Thank you
Please do not write to answer ‘ASAP’. We state that we will answer within 48 hours but usually we answer well within 24 hours – we cannot sit at the computer permanently because we have to lecture on courses to earn a living 🙂
The market value of debt is determined by investors, and so it is the present value of the interest before any tax discounted at the investors required rate of return. (We always in the exam ignore personal tax).
The cost of debt to the company uses the after-tax interest in the calculation, because the company gets the benefit of tax relief on the interest.
You really should watch the free lectures on this where I both explain and illustrate with examples.
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