A. An answer of $27,000 results from adding the book value of the equipment ($75,000) to the cash received from its sale ($10,000) and subtracting the cost to remove it ($40,000), then multiplying the result by .60 to express it net of tax. However, the $75,000 book value of the equipment is not a cash inflow and the $10,000 cash received from the sale of the old equipment does not represent a taxable gain.
B. Cash inflow from the sale of the equipment will be $10,000. The equipment's tax basis is $75,000. Thus, there will be a capital loss for income tax purposes of $65,000, which will be worth $26,000 in cash for the company ($65,000 × .40) from reduced income taxes. The $40,000 cost to remove will be a net expense after tax of $24,000 ($40,000 × .60). Thus, the net cash flow for the equipment's end of life will be $10,000 + $26,000 - $24,000 = $12,000.
C. An answer of $(18,000) results from taking the $10,000 cash inflow from the sale of the equipment less the $40,000 cash outflow for cost to remove, and then reducing the resulting $(30,000) by the effect of income tax savings at 40% of the net loss. This assumes that the $10,000 received for the sale is taxable because the equipment's book value is zero. However, the equipment's tax basis is different from its book value.
D. An answer of $45,000 results from counting the equipment's $75,000 tax basis as a cash inflow and adjusting it by a positive $10,000 for the sale of the equipment and by a negative $40,000 for the cost to remove. However, the $75,000 tax basis is not a cash inflow. Furthermore, the tax consequences of the sale and of the cost to remove need to be included.
