Your company is considering the replacement of an old delivery van with a new on

Question

Your company is considering the replacement of an old delivery van with a new one that is more efficient.  The old van cost $40,000 when it was purchased 5 years ago.  The old van is being depreciated using the simplified straight -line method over a useful of 8 years.  The old van could be sold today for $7000.  The new van has an invoice price of $80,000 and it will cost $6,000 to modify the van to carry the company's products.  Cost savimgs from use of the new van are expected to be $28,000 per year for 5 years at which time the van will be sold for its estimated salvage value of $18,000.  The new van will be depreciated using the simplified straight line method over its five year useful life.  The company's tax rate is 35%.  Working capital is expected to increase by $5,000at the inception of the project but this amount will be recaptured at the end of year five. What is the tax effect of selling the olf machine?

A. A tax savings of $1400.

B. A savings of $2450.

C. Additional taxes paid of $2450

D. A savings of $2800

Your company is considering the replacement of an old delivery van with a new one that is more efficient. The old van cost $40,000 when it was purchased 5 years ago. The old van is being depreciated using the simplified straight -line method over a useful of 8 years. The old van could be sold today for $7000. The new van has an invoice price of $80,000 and it will cost $6,000 to modify the van to carry the company's products. Cost savimgs from use of the new van are expected to be $28,000 per year for 5 years at which time the van will be sold for its estimated salvage value of $18,000. The new van will be depreciated using the simplified straight line method over its five year useful life. The company's tax rate is 35%. Working capital is expected to increase by $5,000at the inception of the project but this amount will be recaptured at the end of year five. What is the tax effect of selling the olf machine? A tax savings of $1400. A savings of $2450. Additional taxes paid of $2450 A savings of $2800

Explanation / Answer

Book Value of Old machine at the time of sale = $40,000 - ($40,000/8)x5 = $40000 - $25000 = $15000

Hence, Loss on sale of old machine = $15000 - $7000 = $8000

Tax saving on sale of Old Machine (Capital Loss) = $8000 x 35% = $2800

Option D is correct

D. A savings of $2800

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