Interest tax shield

Interest tax shield

The reduction in income taxes that results from the tax-deductibility of interest payments.

Interest Tax Shield

A reduction in tax liability coming from the ability to deduct interest payments from one's taxable income. For example, a mortgage provides an interest tax shield for a property buyer because interest on mortgages is generally deductible. An interest tax shield may encourage a company to finance a project through debt because dividends paid on stock issues are never deductible.
References in periodicals archive ?
The value of the firm diminishes as its overall risk increases, because the expected value of the interest tax shield declines and the expected bankruptcy costs rises.
The fundamental scenario that previous studies used is this: A long-term mortgage borrower can save the interest tax shield as well as the difference in payments, but a short-term mortgage borrower can start saving after paying off the loan.
If the expectations theory of interest rates holds, firms pay the same present value of interest in the long run regardless of debt maturity; however, issuing long-term debt accelerates interest payments, thus maximizing the present value of the interest tax shield. Brick and Ravid (1985) use this logic to argue that debt maturity should increase with the slope in the yield curve.
As long as the mutual company's loans are treated as debt for tax purposes, this interest tax shield can be worth as much as 20 to 30 percent of total borrowing to the new company.
We measure the maximum potential tax benefits associated with a leverage increase in LRs and LBOs by a firm's interest tax shield (interest expenses multiplied by the firm's effective tax rate) as a percentage of the firm's total assets in the announcement year (ITS/TA).
However, the overall effect on the WACC depends upon the relative importance of the positive effects of deleveraging, as noted above, versus the effect of losing the corporate interest tax shield. If the positive effects mentioned above more than offset the loss of the interest tax shield, firms could more easily finance expansion as a result of the Armey tax reform program.
In my paper on riskless cash flows, I showed that the interest tax shields associated with riskless cash flows can either be equivalently treated as increasing cash flows by the interest tax shield, or as decreasing the discount rate to the after-tax riskless rate.
PV(Interest tax shield) = [summation of] [([T%.sup.*]I[E.sub.t])] where t = 1 to 5 [2]
4 They also show that long-term debt increases the debt capacity of the firm, allowing for a larger interest tax shield on debt.
The tax incentive is the additional interest tax shield.
Full browser ?