After-tax cost of debt
Definition
After-tax cost of debt is the net cost a company incurs on its debt after accounting for tax deductions. It is an important measure as interest expenses are tax-deductible, reducing the overall expense of borrowing.
5 Must Know Facts For Your Next Test
- The formula for after-tax cost of debt is: Interest Rate * (1 - Tax Rate).
- It reflects the true financial burden of debt on a company.
- Interest payments on debt reduce taxable income, hence lowering the tax liability.
- After-tax cost of debt is typically lower than the nominal interest rate due to tax savings.
- It plays a crucial role in calculating the Weighted Average Cost of Capital (WACC).
Review Questions
- How do you calculate the after-tax cost of debt?
- Why is after-tax cost of debt usually lower than the nominal interest rate?
- What role does after-tax cost of debt play in WACC calculations?
"After-tax cost of debt" appears in:
Related terms
Weighted Average Cost of Capital (WACC): A company's overall cost of capital from all sources, including equity and debt.
Tax Shield: The reduction in income taxes that results from taking an allowable deduction from taxable income.
Cost of Equity: The return required by shareholders for investing in a company's equity.
