Problem:
Javier and Anita Sanchez purchased a home on January 1, 2013, for $625,000 by paying $250,000 down and borrowing the remaining $375,000 with a 9 percent loan secured by the home. The loan requires interest-only payments for the first five years. The Sanchezes would itemize deductions even if they did not have any deductible interest. The Sanchezes' marginal tax rate is 30 percent.
Required:
Question 1: What is the after-tax cost of the interest expense to the Sanchezes in 2013?
Question 2: Assume the original facts, except that the Sanchezes rent a home and pay $33,750 in rent during the year. What is the after-tax cost of their rental payments in 2013?
Question 3: Assuming the interest expense is their only itemized deduction for the year and that Javier and Anita file a joint return, have great eyesight, and are under 60 years of age, what is the after-tax cost of their 2013 interest expense?
Note: Explain the solution in detail.