Tax after infl or Infl aftet tax

CFA Level III
#1

[(1+r)(1+Infl) - 1] * ( 1 - tax)

OR

[(1+r)/(1-tax)] * [1 + Infl] - 1

I always get confused which one to use and end up picking the incorrect method :frowning:

#2

the latter

#3

disagree. You should multiply by inflation first, then gross up by 1-tax…i know there have been answers shwoing both methods, and I think CFAI curriculum changed in 09 from the latter to the former. To me, the former makes more sense and Schweser seemed to agree when i asked them this question

#4

[(1+r)(1+Infl) - 1] * ( 1 - tax) makes sense more i guess.

#5

[(1+r)(1+Infl) - 1] / ( 1 - tax)

#6

yes igor is right. We gross it up, so you divide by 1-t

#7

I may be wrong , but it is my impression that adding inflation or geometrically adding inflation is the very last thing you do , in CFA’s way.

If your required real-return ( i.e. based on current spending or 1st year spending ) is 4% , and taxes are 30% , and inflation is 2% , then the calculation is:

0.04/(1-0.3) + 0.02

or if you like 1+(0.04/(1-0.3))*(1+0.02) -1

#8

look at the 2009 Patricia and Alexander Tracy question.

Requirement = 45000 (Spending)

Spending / (1-Tax) = Pre Tax Spending = 56,250

Calculate Rate based on that = 5.625%

Then add inflation of 4% = 9.625% (Arithmetic) or 9.86% (Geometric).

#9

^ This is exactly where my concern started. I always though we do all numbers, add inflation and then finally deduct the taxes. I got the ans as (4.5 + 4 ) / 0.80 = 10.625%

But in 2009 Q1, as cpk mentioned it’s the other way round. Not sure what to use.

#10

if you get that far in the problem you will get most points - don’t fret over this

#11

The above is right,as done by the institute in the guideline.

#12

again, ive seen both methods used. According to shweser, the curriculum changed to adding inflation then grossing up after 09 i think, This is very frustrating though

#13

does anyone want to send CFAI an email??

#14

It’s frustrating to see the source itself using diverse methods and the answers are not even close, it’s not like the arithmetic vs geometrical thingie which could be ignored in the grand scheme of things!

#15

The reason why infl add after calculating pre-tax return is, IMO, that doing so give excess return over expenditure needed to keep (preserve) purchansing power of the portfolio.

#16

[deleted repost]

#17

This is not consistent with the 2012 curriculum, at least with regard to a taxable account. Normally, you would gross up inflation by the tax. Hence, RR = (Spending + Inflation)/(1-T).

However, in the 2009 exam, they diverge from this rule by stating, “Briscoe expects a tax rate of 20% to apply to the Tracys’ withdrawals.”

#18

HM

Can you show me a location in the book where they do this

Thanks

#19

If it asks for the nominal before-tax return and all numbers in nominal term(TVM), the last step is 1/(1-t).

Can anyone point out in which year of old AM exams it’s divided by (1-t) at last?

From 2006-2011, 1-year return has been tested for all but one time(2010).

#20

2011: nominal aftertax

2010: nominal pretax(TVM)

2009: nominal pretax

2008: nominal aftertax

2007: nominal pretax

2006: nominal aftertax

Any thought?