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ACCA Strategic Professional · Advanced Financial Management · International investment and financing decisions

A multinational's overseas subsidiary is financed with a $10 million loan from the parent at 5% instead of equity. The subsidiary's tax rate is 30% and the parent's tax rate is 20%. The interest is deductible locally and taxable in the parent's country with no credit issues. What is the annual net tax saving to the group from using debt rather than equity, ignoring withholding tax?

The net annual tax saving is $50,000. Interest of $500,000 saves $150,000 in tax at 30% in the subsidiary, but costs $100,000 in tax at 20% in the parent country, leaving a group saving of $50,000.

  1. A$50,000Correct
  2. B$150,000
  3. C$200,000
  4. D$500,000

Explanation

Interest is $10m x 5% = $500,000. Local tax saved is 30% x 500,000 = $150,000. Parent tax paid on the interest income is 20% x 500,000 = $100,000. Net saving is 150,000 - 100,000 = $50,000. Choosing $150,000 ignores the parent's tax on interest received.

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