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Flying Tiger Corp. is currently unlevered, has equity valued at $650000, and has earnings before interest and tax (EBIT) of $255000. In order to save on taxes, FT’s CEO suggests that the firm should issue new debt to the market and use the proceeds of the debt issue to retire a portion of its equity. The capital structure change results in $250000 of new debt with an annual interest expense of 10 percent. Assume no other changes to Flying Tiger.
a. How much in taxes will Flying Tiger save, per year, as a result of the decision to issue debt and retire equity? Use a corporate tax rate of 40 percent.
Place your answer in dollars with no comma.
b.Suppose that the debt is permanent, meaning that this new level of debt will stay on the books year after year forever. Under this scenario determine the how much in value the permanent debt tax shields provide?