[Big Mike]

When you are doing an NPV calculation with depreciation, how do you do it?

Initial Investment= 200
Cash inflow per year= 50
Straight line 5 year
Salvage value= 50
10% discount rate
Tax rate= 30%

PVA 5 years @ 10% = 3.79079
PV 5 years @ 10%= .62

[CPA so close, so far away]

You calculate after tax cash flows using depreciation. Remember, depreciation is a non-cash expense. Therefore, depreciation for financial purposes is irrelevant to cash. On the other hand, depreciation for the tax return is different. The IRS allows you to take depreciation to reduce your TAXES. Taxes are a cash outflow, thus making depreciation relevant.

So…
Calculate Net Income like you would for regular financial purposes (this allows you to use depreciation and find taxable expense). Then you add back the depreciation to your Net Income to get after tax cash flows.

The main point is that depreciation is only used to find the tax. Once tax is found, add it back.

[Author]

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