CFA Practice Question

There are 520 practice questions for this study session.

CFA Practice Question

A company is considering making material adaptations to its warehouse and equipment. The cost will be $25,000,000, with a benefit period of 10 years. The income tax rate during this period will be 30%. The company is considering the effects of capitalizing the cost versus expensing the cost. Which of the following effects will occur if the cost is expensed rather than capitalized?
A. Expensing will cause income to be greater in the years after the first year by $1,750,000 per year.
B. Expensing will cause the return on assets to be lower in later years.
C. Expensing will cause the return on equity to be lower in later years.
Explanation: In the years following the year the cost was incurred, there will be no expense if the costs were expensed in the first year. However, if the cost was capitalized, there would be a $2,500,000 depreciation cost, which, after tax effects (.3 x $2,500,000), would make income lower by $1,750,000.

User Contributed Comments 2

User Comment
sooye why would there be a depreciation cost if cost is capitalized?
scottm8571 because it is considered part of the asset. In a project scenario, it essentially becomes an expense deferral.
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