Interest Expenses and Income Taxes
In the United States, corporations (and in some cases, individuals) can deduct interest payments on borrowed money. By allowing taxpayers to deduct interest expenses, the government is effectively reducing the interest rate. To illustrate, consider two nearly identical companies, ABCSoft and XYZ Software. Both have taxable incomes (not including the interest deduction) of $750,000. Assume that ABCSoft doesn't borrow any money. Table 17.1 shows ABCSoft's taxes for the year.
| ABCSoft | |
|---|---|
| Income before interest deduction | $750,000 |
| Interest expense | $0 |
| Taxable income | $750,000 |
| Taxes (effective rate, 34%) | $255,000 |
Assume that XYZ Software averages $350,000 in loans at 11.5% interest over the tax ...
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