Multiply percentage given in CCA table by the undepreciated capital cost (UCC)
Can use PV of CCA Tax Shield Formula:
PV of CCA Tax Shield Formula
C = Cost of asset
d = CCA tax rate
Tc = Corporate Tax Rate
k = discount rate
S = Salvage value
n = number of periods in the project
Example: Depreciation and Salvage
You purchase equipment for $100,000 and it costs $10,000 to have it delivered and installed. Based on past information, you believe that you can sell the equipment for $17,000 when you are done with it in 6 years. The company’s marginal tax rate is 40%. If the applicable CCA rate is 20% and the required return on this project is 10%, what is the present value of the CCA tax shield?
Using the methods described in the previous slide will give incorrect answers when the salvage value differs from its UCC
If the asset is depreciated using a declining balance method, then the CCA tax shield formula is the most accurate approach, since it takes into account the future CCA impact
Example: Cost Cutting 10.7
Your company is considering a new production system that will initially cost $1 million. It will save $300,000 a year in inventory and receivables management costs. The system is expected to last for five years and will be depreciated at a CCA rate of 20%. The system is expected to have a salvage value of $50,000 at the end of year 5. There is no impact on net working capital. The marginal tax rate is 40%. The required return is 8%.