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TAX DEDUCTION

AGAjith George7y ago
Sir, 1) Why do we deduct tax from the cost of debt in WACC when we have already found out the cost of debt using the after tax interest? 2) Why do we deduct tax from the market value of debt in the ungearing of beta calculation? Ve/(ve + Vd(1-T)) * beta
John MoffatJohn MoffatTutor7y ago#1
1. We do not deduct tax from the cost of debt when calculating the WACC if the cost of debt has been calculated using the after-tax interest!! I guess you are referring to the formula for the WACC on the formula sheet. That formula is only valid if it is irredeemable debt (and Kd is not the cost of debt - it is the return to investors, which is pre-tax). All of this is explained in my free lectures. 2. This formula comes from Modigliani and Miller, and it is because the debt interest is tax allowable. You are not expected to prove or explain the formula.
AGAjith George7y ago#2
Thank you so much John :)
John MoffatJohn MoffatTutor7y ago#3
You are welcome :-)
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