Sandy Is Married, Files a Joint Return, and Expects to Be

question 43

Essay

Sandy is married, files a joint return, and expects to be in the 24% marginal tax bracket for the foreseeable future. All of his income is from salary and all of it is used to maintain the household. He has a paid-up life insurance policy with a cash surrender value of $100,000. He paid $60,000 of premiums on the policy. His gain from cashing in the life insurance policy would be ordinary income. If he retains the policy, the insurance company will pay him at least $3,000 (3%) interest each year. Sandy thinks he can earn a higher return if he cashes in the policy and invests the proceeds.
a. What before-tax rate of return would Sandy be required to earn on the proceeds from cashing in the policy to equal the return earned with the insurance company?
b. Assume Sandy estimates he can earn a 6% before-tax rate of return on the proceeds from cashing in the policy. Assume he can earn a 6% return for the remainder of his life and that he will reinvest all earnings at the same 6% before-tax rate of return. If Sandy expects to live 10 more years, which alternative will yield the greater amount to his beneficiaries upon Sandy's death? (Given: The future value of an annuity in 10 years assuming a 4.32% after- tax return is 12.19. The future value of an annuity in 10 years assuming a 2.16% return is 11.03).

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Definitions:

Net Exports

The value of a country's total exports minus its total imports, representing the net amount of goods and services being traded with other countries.

GDP Deflator

An indicator used to determine the price levels of newly produced domestic final goods and services, assisting in the conversion of nominal GDP to real GDP.

Real GDP

Gross Domestic Product corrected for inflation, giving a truer depiction of the size of an economy and its growth trajectory over time.

Nominal GDP

The gross domestic product calculated at current market prices, without adjusting for inflation.