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On January 1. Crane Company will acquire a new asset that costs $400,000 and is anticipated to have a salvage value of $30,000 at the end of 4 years. The new asset
* Qualifies as 3-year property under the Modified Accelerated Cost Recovery System (MACRS).
* Will replace an old asset that currently has a tax basis of $80,000 and can be sold now for $60,000.
* Will continue to generate the same operating revenues as the old asset ($200 .000 per year). However, savings in operating costs will be experienced as follows: a total of $ 120.000 in each of the first 3 years and $90,000 in the fourth year. Crane is subject to a 40% tax rate and rounds all computations to the nearest dollar. Assume that any gain or loss affects the taxes paid at the end of the year in which it occurred. The company uses the net present value method to analyze projects using the following factors and rates:
The present value of the depreciation tax shield for the fourth year MACRS depreciation of Crane Company's new asset is?
The firm will be able to deduct 7% of the asset's cost during the fourth year of the asset's life. The deduction is $28,000 ($400,000 x 7%), and the tax savings is $11,200 ($28,000 x 40%). The present value of this amount is $6,608 ($11,200 x .59 PV of $1 at 14% for four periods).