Comparison & Decision

• Savings from Timing: 17,178 - 16,380 = 798

• Strategy: Pay in December for max deduction.

• Benefit: Accelerating reduces the total tax bill.

• Timing: Outflow occurs only a few days earlier.

• Cost: Minor PV cost for earlier cash payment.

• Result: December payment is the clear winner.

Capital Gains Timing

A: Current Position (11 Months)

• Total Appreciation: 1,000 shares x 20 = 20,000

• Short-Term Tax: 20,000 x 35% = 7,000

• Net Profit: 20,000 - 7,000 = 13,000

B: Strategy (12 Months)

• Total Appreciation: 1,000 shares x 20 = 20,000

• Long-Term Tax: 20,000 x 15% = 3,000

• Net Profit: 20,000 - 3,000 = 17,000

• Tax Savings: 7,000 - 3,000 = 4,000

Waiting one month creates additional risk.

Risk: Stock price could decrease due to market volatility.

Risk: Company could encounter financial difficulties.

Need: Helen may need immediate cash flow.

Outcome: The 4,000 savings must outweigh these risks.

Result: Helen is bearing risk for the extra month.

A: Current Family Tax Burden

• Strategy: Employ Jonathon in the sole proprietorship.

• Effect: Shifting income from a 37% rate to a 15% rate.

• Pretax Requirement: Tawana needs $12,698 to give Jonathon $8,000.

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Current Math: $8,000 / (1 - 0.37) = $12,698.

Pretax Income: It currently takes Tawana $12,698 of pretax income to generate the $8,000 after-taxes given to Jonathon.

Marginal Rate Formula: After-tax income = Pretax income $\times$ (1 − marginal tax rate).

Current Math: $8,000 = Pretax income \times (1 − 0.37)$.

Calculation: Pretax income = $8,000 / 0.63 = $12,698.

Employment Strategy: If Jonathon worked for the proprietorship, Tawana would only pay him $9,412.

Strategy Math: $8,000 / (1 - 0.15) = 9,412$.

C: Analysis of Savings

Tawana's Tax Benefit ($9,412 \times 37\%$) = 3,482

Jonathon's Tax Cost ($9,412 \times 15\%$) = 1,412

Net Family Benefit = 2,070

D: Comparison & Decision

Pretax Savings: $12,698 - 9,412 = 3,286$

After-Tax Savings: $9,412 \times (37\% - 15\%) = 2,070$

Decision: Employing Jonathon is the clear winner.

B: January Payment After-Tax Cost

• Tax Savings in One Year: $90,000 \times 37\% = \$33,300$.

• Present Value of Savings: $\$33,300 \times 0.926$ (discount factor, 1 year, 8 percent) = $\$30,836$.

• Formula: After-tax cost = Pretax cost − Present value tax savings.

• Calculation: $\$90,000 - \$30,836 = \mathbf{\$59,164}$.

A tax deduction is worth more today than a tax deduction in the future 

Paying the $90,000 in December is the superior strategy.

Benefit: Accelerating the payment from January to December increases the present value of the tax deduction.

Cash Outflow Timing: Moving the payment only shifts the actual cash outflow by a few days.

Cost Factor: There is only a minor present value cost associated with accelerating the payment.

Tax Optimization: The immediate tax benefit significantly outweighs the minor cost of earlier payment.

Result: Isabel maximizes her wealth by securing the deduction in the current tax year.

Savings from Timing: Paying inecember saves $2,464 in after-tax costs ($59,164 - $56,700).