Firm L has $500,000 to invest and is considering two alternatives. Investment A would pay 6 percent ($30,000 annual before-tax cash flow). Investment B would pay 4.5 percent ($22,500 annual before-tax cash flow). The return on Investment A is taxable, while the return on Investment B is tax exempt. Firm L forecasts that its 35 percent marginal tax rate will be stable for the foreseeable future.
a. Compute the explicit tax and implicit tax that Firm L will pay with respect to Investment A and Investment B.
b. Which investment results in the greater annual after-tax cash flow?