It is Jan 1. The Rumpel Felt Company purchased a felt press last year at a cost

Question

It is Jan 1. The Rumpel Felt Company purchased a felt press last year at a cost of exist7, 500. The machine had an expected life of 3 years at the time of purchase. The machine was depreciated using MACRS with a 5-year recovery period. (MACRS depreciation rates are shown in the table) The division manager reports that, for exist12,000 (including installation) a new felt press can be bought. The new felt press will expand sales, because the new fashion is for smoother felt. The old machine's current market value is exist1,000. Taxes are 40%. What is the net salvage value of the old press if Rumpel replaces it today? The net salvage value of the old press is exist (Round to the nearest whole dollar.)

Explanation / Answer

Thr machine was purchased for 7500$ and after 1 year as per the given table its has undergone 20% depreciation.
(to get 20% from the table, look at the year 1 value of a 5 year period, since the machine is 1 year old and 5 year period is used in MACRS depreciation calculation)
So as of today after depreciation the value of the machine is 7500 (1-20/100) = 7500*0.8 = 6000$

However the current market price of the machine is only 1000$

So there is a loss of 6000-1000 = 5000 $
This loss of 5000$ will be shown on company's income statement to avail tax benefits, which amounts to 40% (tax rate is 40%) of 5000$ = 2000$

So the net salvage value of the machine is = resale value + tax savings due to the incurred loss
= 1000 $ + 2000$ = 3000$

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