A corporation is considering the purchase of a drilling fixture for use in the manufacture of a fabricated metal product. The fixture will cost $20,000 and is expected to provide service for the duration of the product’s life cycle (i.e., the duration of the project), which is six years. The fixture is projected to have a market value of $7000 at the end of this time. The fixture will be depreciated using the MACRS method, with a recovery period of 7 years. The effective tax rate is 40% and the after-tax MARR is 8%.
1. Has this asset been correctly classified? Justify your answer. (In subsequent parts, use the depreciation method and classification specified even if you do not believe this to be the correct approach.)
2. Suppose that the use of this fixture results in either increased revenues or savings of $4000 each year. Can its purchase be economically justified? Justify your answer.
3. What is the tax on the disposal transaction?
4. Suppose future annual revenue/savings are uncertain. What minimum annual revenue/savings must the corporation obtain before taxes in each to justify purchasing the fixture?