A. This answer results from depreciating the building over a 5 year period instead of over 10 years.

B. The fifth year's net cash flow would be:

Cash flow from operations after tax: ($1,200,000 - $300,000) × .6 = $540,000

Depreciation tax shield:

1Depreciation on building = $2,000,000 ÷ 10 = $200,000 per year for 10 years

1Depreciation on equipment = $3,000,000 ÷ 5 = $600,000 per year for 5 years

2Total depreciation in Year 5 would be $200,000 + $600,000, or $800,000

The depreciation tax shield in Year 5 is $800,000 × .4, or $320,000

Sale of land, net of tax: The land is sold for $800,000 and cost $500,000. Since land is not depreciated, its tax basis is $500,000 (an asset's book value for tax purposes is called its tax basis). There will be a $300,000 gain on the sale that will be taxable at the rate of 40%, which is $120,000. Thus, the net cash flow from the sale of the land will be $800,000 - $120,000, or $680,000.Sale of building, net of tax: The building is sold for $500,000. Its tax basis at the end of the 5th year is $200,000 - (5 × $200,000) = $1,000,000. Since it is sold for $500,000, there is a loss of $500,000 on the sale. The tax benefit from the loss is $500,000 × .40, or $200,000. The net cash flow from the sale of the building is $500,000 + $200,000 tax benefit from the loss, or $700,000.Sale of equipment, net of tax: The equipment will be fully depreciated at the end of the 5th year. It will be sold for a net amount of $250,000 ($300,000 proceeds from sale minus removal cost of $50,000). The full net amount is taxable, so tax on the gain is $250,000 × .4, or $100,000. The net cash flow from the sale will therefore be $250,000 - $100,000, or $150,000. Total cash flow for Year 5 is $540,000 cash flow from operations after tax + $320,000 depreciation tax shield + $680,000 sale of land + $700,000 sale of building + $150,000 sale of equipment = $2,390,000. 

1For tax purposes, the depreciable base is 100% of an asset's cost, regardless of which depreciation method is used and regardless of whether salvage value is expected. 

2Depreciation on land is not included because land is not depreciated.

C. This answer is incorrect. See correct answer for an explanation.

D. This answer is incorrect. See correct answer for an explanation.