1. What is Cost of Debt?

The cost of debt is the effective interest rate a company pays on its debts after accounting for tax benefits. It represents the after-tax cost to the company for borrowing funds.

2. How Does the Calculator Work?

The calculator uses the cost of debt formula:

Where:

• Interest Rate — The interest rate on the debt (as a percentage)
• Tax Rate — The company's effective tax rate (as a percentage)

Explanation: The tax benefit comes from the fact that interest expenses are tax-deductible, reducing the company's taxable income.

3. Importance of Cost of Debt Calculation

Details: Calculating the cost of debt is essential for determining a company's weighted average cost of capital (WACC), evaluating financing options, and making capital structure decisions.

4. Using the Calculator

Tips: Enter the interest rate (as a percentage) and tax rate (as a percentage). Both values must be between 0 and 100.

5. Frequently Asked Questions (FAQ)

Q1: Why do we multiply by (1 - Tax Rate)?
A: Because interest expenses are tax-deductible, the government effectively subsidizes part of the interest cost through reduced tax payments.

Q2: What's a typical cost of debt?
A: It varies by company and economic conditions, but generally ranges from 3-8% after tax for investment-grade companies.

Q3: Should I use the nominal or effective tax rate?
A: Use the company's effective tax rate (total taxes paid divided by taxable income) rather than the statutory rate.

Q4: Does this work for personal debt?
A: No, this formula is for corporate debt. Personal interest expenses typically don't receive the same tax treatment.

Q5: How does cost of debt affect WACC?
A: Cost of debt is one component of WACC, along with cost of equity. Lower cost of debt reduces overall WACC.