SOLUTION: A bank offers two schenes of investment. Scheme A pay tax-free interest of 4%. Scheme B pays interest of 6% on which a tax of 20% has to be paid. A man has $5000 to invest. Calcul

Question 1104663: A bank offers two schenes of investment. Scheme A pay tax-free interest of 4%. Scheme B pays interest of 6% on which a tax of 20% has to be paid. A man has $5000 to invest.
Calculate his earnings under the two differentschemes for 1 year
Answer by Theo(13342) (Show Source): You can put this solution on YOUR website!
5000 * 1.04 = 5200.
his profit is 2000 which he gets to keep because it's tax free.

5000 * 1.06 = 5300.
his profit is 300 but he has to pay 20% tax on it.
20% of 300 = 60.
he is left with 240.

even though he had to pay 20%, he is still better off with the 6% investment that he has to pay 20% tax on rather than the 4% investment that he doesn't have to pay tax on.

his after tax earning on the 6% is .06 * .8 = .048.

5000 * 1.048 = 5240.
his tax free interest is 240.

first investment at 4% gives him a tax free interest of 200.

second investment at 6% with 20% tax on the interest gives him a tax free interest of 240.

he can compare the investments directly by calculating the after tax interest rate.

after tax interest rate = before tax interest rate * (1 - tax rate on interest).

.06 - .2 * .06 = .048.

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