After-tax Cost of debt Calculator

The math is fairly simple for calculating your after-tax cost of debt. But it takes time gather all the information needed for the formula:
After-Tax Cost Of Debt = Before-Tax Cost Of Debt X (1 – Marginal Corporate Tax Rate)
Let’s take a closer look at each part of the formula. Then we’ll look at examples of the cost of debt calculations. 

There are three main steps to calculate the after-tax cost of debt.

Step 1: Calculate the before-tax cost of debt

Your pre-tax cost of debt is the sum of your interest payments without adjusting for tax savings. To calculate the cost of debt, you’ll need to add the interest payments on all small business financing tools.  
Let’s say our business has several lines of credit with an average interest rate of 6.9%. If we want to represent this as a decimal, we simply divide the interest rate by 100. 

Step 2: Calculate the marginal tax rate

You’ll need to know your pre-tax and net income to calculate your marginal tax rate. Here’s how that formula looks:

marginal corporate tax rate = 1 – (net income / pre-tax income)

Let’s say our business has $660,000 pre-tax and $525,000 net income. The calculation looks like this: 
marginal corporate tax rate = 1 – ($525,000 / $660,000)
0.20 = 1 – (0.80)
If we want to represent this as a percentage, we can multiply our result by 100 to get a marginal tax rate of 20%. 

Step 3: Calculate the after-tax cost of debt

Now that we’ve done all that leg work, we can plug our values into the after-tax cost of debt formula.

after-tax cost of debt = before-tax cost of debt * (1 – marginal corporate tax rate)

5.5% = 6.9% (1 – 20%)
Let’s look at the same equation but use decimals. 
0.055 = 0.069 (1 – 0.2)
We can turn our result back into a percentage by multiplying it by 100, giving us an after-tax interest rate of 5.5%.

Interest tax savings relieve debt burdens and free up parts of the budget. Knowing how much your business will save is useful as it allows for more exact planning. 

Investment Planning
Calculating the after-tax cost of debt is also useful in the debt-planning stage, as you’ll need to know the rate of return needed to cover the cost of the debt’s effective interest rate. 

Business debt evaluation
A company’s debt says a lot about its financial health and potential risks. You want to know how close a company is to being overleveraged and how its debt compares to the market average. A company with lower-than-average debt costs signals that it’s run efficiently and has resources for growth. 

Weighted-average cost of capital (WACC)
A useful metric for growing businesses to track is how well it’s turning its debt-based investments into a profit. For businesses that use both equity and debt to finance a project, you’ll need to calculate the weighted-average cost of capital to account for the use of equity. Your WACC represents the minimum rate of return you need to break even on the investment. 

When businesses look at their debt financing options, they can consider how their after-tax savings will play into the return on investment. The lower the cost to invest (in this case, we’re talking the cost of interest on a loan), the lower the bar for a positive return on investment (ROI). 

So when business owners sit down to decide, they should use the after-tax cost of debt formula to help them determine the minimum rate of return needed to break even on the investment. If the proposed investment doesn’t appear likely to earn that minimum return, then the investment is likely not a good idea

When the cost of debt rises, so does a business’s financial liability. Higher debt costs increase the chances a business will default on its loans. When loans have variable interest rates, fluctuations in the interest from the federal reserve can make the cost of debt more or less expensive. 

Right now, we’re seeing interest rates rise, and so any entity with variable debt is going to see their costs go up. This is most common with business credit cards, but any adjustable rate lending product will be affected. 

There is a point where a business can become too overloaded with debt to remain profitable or make its repayments. In this case, the business will likely need to make big cost cuts and/or restructure to stay afloat.