One way companies can raise money is by issuing bonds, essentially asking investors to lend them money. Of course, investors want interest on their investment, but companies get a tax deduction for the interest they pay, which lowers the effective cost of the bond. Whether you're investigating the finances of a company you invest in or considering having your business issue bonds, knowing the after-tax cost helps you determine how much the bond really costs the company.
Divide the effective tax rate paid by the company by 100 to convert it to a decimal. For example, if the company pays 25 percent, divide 25 by 100 to get 0.25.
Subtract the tax rate expressed as a decimal from 1. In this example, subtract 0.25 from 1 to get 0.75.
Multiply the interest expense to find the after-tax effective cost of the bond interest. In this example, if the bond cost the company $50,000 in interest, multiply $50,000 by 0.75 to find that the bond's after-tax interest expense equals $37,500.
- Don't confuse preferred stock dividends with bond interest. Even though both may be paid as a percentage of the face value of the preferred stock or bond, preferred stock dividends are not tax deductible.
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