Western Inc. purchases a machine for $15,000. This machine qualifies as a five-year recovery asset under MACRS with the fixed depreciation percentages as follows: year 1 = 20.00%; year 2 = 32.00%; year 3 = 19.20%; year 4 = 11.52%
Western has a tax rate of 33%. If the machine is sold at the end of four years for $4,000, what is the cash flow from disposal?
A) $3,535.36
B) $3,408.22
C) $2,592.00
D) $1,408.00
Answer: A
Explanation: A) The four-year sale is at $4,000. To begin with, the book value of the machine must be established to determine if a gain or loss has been incurred at disposal. The depreciation schedule for the $15,000 machine is:
Year 1: $15,000 × 0.2000 = $3,000
Year 2: $15,000 × 0.3200 = $4,800
Year 3: $15,000 × 0.1920 = $2,880
Year 4: $15,000 × 0.1152 = $1,728
Accumulated Depreciation = $3,000 + $4,800 + $2,880 + $1,728 = $12,408
Book Value of machine = $15,000 - $12,408 = $2,592
Gain on disposal is $4,000 - $2,592 = $1,408
Tax on Gain = Gain on disposal × Tax rate = $1,408 × 0.33 = $464.64
After-Tax Cash Flow at disposal = $4,000 - $464.64 = $3,535.36
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