Suppose you take out a $11000 loan at 10% in year one and pay it off with a single payment in year two. If your tax rate is 40%, what is the change in net cash flow in year two? Solution Interest on loan = 11,000 x 10% = $1,100 Tax savings on interest = 1,100 x 40% = $440 Net cash flow will be decrease by = 11,000 + 1,100 - 440 = $11,660.

1. Suppose you take out a $11000 loan at 10% in year one and pay it off with a single payment in
year two. If your tax rate is 40%, what is the change in net cash flow in year two?
Solution
Interest on loan = 11,000 x 10% = $1,100
Tax savings on interest = 1,100 x 40% = $440
Net cash flow will be decrease by = 11,000 + 1,100 - 440 = $11,660