To calculate the after-tax cost of debt, multiply the before-tax cost of debt by (1 + T)

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Question:

To calculate the after-tax cost of debt, multiply the before-tax cost of debt by (1 + T) OR (1 - T).

Water and Power Company (WPC) can borrow funds at an interest rate of 10.20% for a period of eight years. Its marginal federal-plus-state tax rate is 45%. WPC’s after-tax cost of debt is (4.77%, 5.61%, 6.45%, OR 5.33%) (rounded to two decimal places).

At the present time, Water and Power Company (WPC) has 15-year noncallable bonds with a face value of $1,000 that are outstanding. These bonds have a current market price of $1,555.38 per bond, carry a coupon rate of 11%, and distribute annual coupon payments. The company incurs a federal-plus-state tax rate of 45%. If WPC wants to issue new debt, what would be a reasonable estimate for its after-tax cost of debt (rounded to two decimal places)?

A. 3.01%

B. 2.71%

C. 3.61%

D. 2.41%