🏦 After-Tax Cost of Debt Calculator
Calculate the after-tax cost of debt — the effective interest rate considering the tax deductibility of interest.
Interest Tax Shield
Interest payments reduce taxable income — this is the debt tax shield. A 6% loan with a 21% tax rate has an effective cost of only 4.74%. This tax advantage is why some debt is beneficial (Modigliani-Miller theorem).
Why the Tax Shield Makes Debt Cheaper Than It Looks
After-Tax Cost of Debt = Pre-Tax Rate × (1 − Tax Rate). A company borrowing at 6.5% with a 21% corporate tax rate has an actual after-tax cost of 5.135%. The difference — the "tax shield" — is the government effectively subsidizing your interest payments by allowing them as a tax deduction. This is why debt is always cheaper than equity in the capital structure, and why WACC uses the after-tax cost when weighting debt.
Use in WACC Calculations
WACC = (E/V × Re) + (D/V × Rd × (1−T)). The (1−T) term is exactly the after-tax adjustment. When building a WACC, always use the after-tax cost of debt — using the pre-tax rate overstates the cost of capital and will cause you to reject profitable projects.
People Also Ask
Use the current yield to maturity (YTM) on the company's outstanding debt, not the coupon rate on old bonds. YTM reflects today's market cost of borrowing. If the company has multiple debt instruments, use a weighted average of their YTMs. For private companies without traded debt, use the rate on a bank loan or comparable public company bonds.
Only for profitable companies that actually pay taxes. Loss-making companies get no immediate tax shield because they have no taxable income to offset. For those companies, the effective cost of debt equals the pre-tax rate until they return to profitability.
Cost of debt (after-tax) is almost always lower than cost of equity. Debt is less risky for investors (they get paid before equity holders), so they demand lower returns. Additionally, the tax deductibility of interest further reduces the effective cost. This is why companies use some debt in their capital structure.