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Assume that the tax rate on capital gains is 15%, while the tx rate on dividend...

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Finance

Assume that the tax rate on capital gains is 15%, while the txrate on dividend income is 20 %. An investor is comparing twooptions for the stock of ABC firm: I) receive $100 of dividendincome now,  II) get unrealized capital gains of $100 nowwhich are left to grow with the firm for five years. The expectedrate of return on the stock of ABC firm is 8%. The investor willinvest his after-tax dividend income in ABC stock for five years.How much higher after-tax income the investor will get in fiveyears under the capital gains option II than under the dividendincome option I (i.e., difference of option II income over option Iincome)?

1.

$15.37

2.

$12.977

3.

$7.08

4.

$5.798

Answer & Explanation Solved by verified expert
4.0 Ratings (503 Votes)
Option1 Receive dividend and then invest in the stock of ABC firm Dividend 10000 Dividend tax 20 Dividend after dividend tax 8000 This is invested in stock 8 for 5 years Amount invested 8000 Return 8 Time in years 5 Amount    See Answer
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Transcribed Image Text

Assume that the tax rate on capital gains is 15%, while the txrate on dividend income is 20 %. An investor is comparing twooptions for the stock of ABC firm: I) receive $100 of dividendincome now,  II) get unrealized capital gains of $100 nowwhich are left to grow with the firm for five years. The expectedrate of return on the stock of ABC firm is 8%. The investor willinvest his after-tax dividend income in ABC stock for five years.How much higher after-tax income the investor will get in fiveyears under the capital gains option II than under the dividendincome option I (i.e., difference of option II income over option Iincome)?1.$15.372.$12.9773.$7.084.$5.798

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