A firm purchases a new machine for $153,000. It borrows $61,200 at 3.4% annual i

Question

A firm purchases a new machine for $153,000. It borrows $61,200 at 3.4% annual interest to be repaid in 2 years. The machine is depreciated using a 5-year MACRS. At the end of 3 years, the firm sells the machine for $65,000. The firm's tax rate is 34%. How much does the firm pay or save in taxes from selling this machine at the end of 3 years? In other words, what is the gains tax?
If the firm will have to pay taxes from selling this machine, enter your answer as a positive number. If the firm will save money in taxes from selling the machine, enter the answer as a negative number.

Explanation / Answer

First, we need to compute the remaining balance of the machine at the end of 3 years. The 5-year MACRS rates for the first three years are 20%, 32% and 19.20% (using half year convention). These rates are applied directly to the cost of machine to calculate the depreciation.

The asset is sold for $65000, therefore -

Gain on sale of asset = $65000 - $44064 = $20936

Tax on gain = $20936 x 34% = $7118.24

Year Opening Balance Depreciation (Cost of machine x rate) Closing Balance 1 $153000 $153000 x 20% = $30600 $122400 2 $122400 $153000 x 32% = $48960 $73440 3 $73440 $153000 x 19.20% = $29376 $44064

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