A company wants to raise capital of ₹40,00,000 for a project wherefrom earnings before tax would be 30% of the capital employed. The company can raise debt finance @ 12% p.a. The following three alternatives for raising

Analysis of total tax liability of the Company under various financing options Particulars Option 1 (₹) Option 2 (₹) Option 3 (₹) Share Capital 40,00,000 20,00,000 8,00,000 Debt @ 12% - 20,00,000 32,00,000 Total Capital 40,00,000 40,00,000 40,00,000 PBIT (Expected Rate of Return @ 30% of total Capital Employed) 12,00,000 12,00,000 12,00,000 Less: Interest on loan @ 12% - (2,40,000) (3,84,000) Profit Before Tax 12,00,000 9,60,000 8,16,000 Less: Tax @ 30.9% on PBT (a) (3,70,800) (2,96,640) (2,52,144) Net Profit After Tax 8,29,200 6,63,360 5,63,856 Dividend Distribution Tax @ 20.358% (b) 1,68,808 1,35,047 1,14,790 Total Tax liability Income Tax (a) 3,70,800 2,96,640 2,52,144 Dividend Distribution Tax (b) 1,68,808 1,35,047 1,14,790 Total tax liability (a+b) 5,39,608 4,31,687 3,66,934 As the tax liability is minimum in option 3, therefore the company should go for option 3.