Lab 6 Individual Homework
Q1. You have a taxable investment opportunity with an EAR of 6%. Another tax-free investment
opportunity has an EAR of 5%. If your tax rate is 40%, which opportunity provides the higher
after-tax interest rate?
EAR After tax= taxable EAR* (1-TAX RATE) = 6% × (1-40%) = 3.60%
The EAR of the tax-free investment is 3.60%, whereas the EAR of the taxable opportunity after
tax is only 3.60%. Therefore, the tax-free investment should be preferred over the taxable 5%
EAR.
Q2. If the inflation rate is 7%, what nominal interest rate is necessary for you to earn a 4% real
interest rate on your investment?
(1+Nominal)=(1+real)*(1+inflation)
Nominal= (1+4%)*(1+7%)-1
= 11.28000000%
Q3. You have a credit card debt of $ 50,000 that has an APR (with monthly compounding) of
20%. Each month, you only pay the minimum monthly payment. You are required to pay only
the outstanding interest. You have received an otherwise identical credit card offer with an APR
of 18% with daily compounding (Assume there are 365 days in a year). After considering all
your alternatives, you decide to switch cards, roll over the outstanding balance on the old card
into the new card, and borrow additional money. How much can you borrow today on the new
card without changing your minimum monthly payment?
= 50,000*20%/12= 833.50
= 18%/365= 0.0005
= 833.33/1.51093%
= $55153.407
