The revenue department of a state government employs certified public accountant

Question

The revenue department of a state government employs certified public accountants (CPAs) to audit corporate tax returns and book keepers to audit individual returns. CPAs are paid $31,200 per year, while the annual salary of a bookkeeper is $18,200. Given the current staff of CPAs and bookkeepers, a study made by the department's economist shows that adding one year of a CPA's time to audit corporate returns results in an additional tax collection of $52,000. In contrast, an additional bookkeeper adds $41,600 per year in additional tax revenue. a. If the department's objective is to maximize tax revenue collected, is the present mix of CPAs and bookkeepers optimal? Explain. b. If the present mix of CPAs and bookkeepers is no optimal, explain what re-allocation should be made. This is, should the department hire more CPAs and fewer bookkeepers or vice versa?

Explanation / Answer

(a)

The mix of CPAs and Bookkeepers will be optimal, if following condition is fulfilled -

MPCPA/PCPA = MPBK/PBK

MPCPA/PCPA = 52,000/31,200 = 1.67

MPBK/PBK = 41,600/18,200 = 2.28

Above calculations shows that,

MPCPA/PCPA < MPBK/PBK

Thus, if the department's objective is to maximize tax revenue collected then the present mix of CPAs and bookkeepers is not optimal.

(b)

The department should hire more bookkeepers and fewer CPAs as it will bring the mix to the optimal level.

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