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17 March, 15:45

The Shrieves's Corporation has $10,000, that it plans to invest in marketable securities. It is choosing among AT&T bonds, which yield 7.5%, state of Florida muni bonds, which yield 5% (but are not taxable), and AT&T Preferred stock, with a dividend yield of 6%. Shrieves's corporation tax rate is 35%, and 70% of the dividends received are tax exempt. Find the after-tax rates of return on all three securities.

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  1. 17 March, 16:28
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    4.875%; 5.37%; 5%

    Explanation:

    Given that,

    Invest = $10,000

    AT&T bonds = 7.5%

    State of Florida muni bonds = 5%

    AT&T preferred stock = 6%

    Corporate tax rate = 35%

    After taxes:

    AT&T bonds:

    = 7.5% * $10,000

    = $750

    Taxes:

    = 35% * $750

    = $262.50

    Yield AT&T bonds:

    = [ ($750 - $262.50) : $10,000] * 100

    = [$487.50 : $10,000] * 100

    = 4.875%

    AT&T preferred stock:

    = 6% * $10,000

    = $600

    Tax exemption:

    = 70% * $600

    = $420

    Taxable = $600 - $420

    = $180

    Taxes:

    = 35% * $180

    = $63

    Yield AT&T preferred stock:

    = [ ($600 - $63) : $10,000] * 100

    = [$537 : $10,000] * 100

    = 5.37%

    state of Florida muni bonds = 5%

    Muni bonds = 5% * $10,000

    = $500

    They are not taxable, so there is no tax deduction.

    Yield state of Florida muni bonds:

    = [$500 : $10,000] * 100

    = [$500 : $10,000] * 100

    = 5%
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