From past paper, I sometimes found that the tax is taken into account in the cash needed calculation part while sometimes in the bottom part after adding inflation. Can I know is there any difference and when I should put it in the cash needed part and when the bottom part?
Anyone can help??
It depends on the question. If they are asking for pre-tax return, then you’d divide the $ return required by (1-T). If the asset base is given as pre-tax (and subject to say a bequest tax), then you’d consider the (1-T) in the denominator (i.e. the asset base).
Thanks man! But what I mean is that something the tax calculations will appear at the cash needed part instead of the last part.
If investments are in a taxable a/c and you’re asked to calculate pretax nominal return, then:
Ri = (After tax real return + Inflation rate)/(1-Tax rate). Here, you first add inflation and then get the pre tax return.
If it’s a tax deferred a/c, then
Ri = [After tax real return/(1-tax rate)] + inflation rate. Here you first pre tax the returns and then you add inflation.
If this is what you were looking for.