How does a $10 increase in depreciation expense primarily affect net income on the income statement?

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Multiple Choice

How does a $10 increase in depreciation expense primarily affect net income on the income statement?

When depreciation expense increases by $10, the impact on net income on the income statement is a reduction of that same amount before considering any tax effects. This is because depreciation is an expense that reduces the taxable income and ultimately the net income. In this case, if we incorporate the tax effects, the effective reduction in net income from the $10 increase in depreciation expense would not be a direct $10 reduction due to the tax shield provided by the depreciation expense. Assuming a tax rate of approximately 40% (a common higher-end rate for taxation), the tax savings from this additional depreciation would be $4 ($10 x 40%). Thus, the actual reduction in net income would effectively be $6 ($10 depreciation - $4 tax savings). This makes sense in terms of how expenses are reflected on the income statement, as they decrease the earnings reported, while tax effects must be accounted for to understand the real impact on net income.

When depreciation expense increases by $10, the impact on net income on the income statement is a reduction of that same amount before considering any tax effects. This is because depreciation is an expense that reduces the taxable income and ultimately the net income.

In this case, if we incorporate the tax effects, the effective reduction in net income from the $10 increase in depreciation expense would not be a direct $10 reduction due to the tax shield provided by the depreciation expense. Assuming a tax rate of approximately 40% (a common higher-end rate for taxation), the tax savings from this additional depreciation would be $4 ($10 x 40%). Thus, the actual reduction in net income would effectively be $6 ($10 depreciation - $4 tax savings).

This makes sense in terms of how expenses are reflected on the income statement, as they decrease the earnings reported, while tax effects must be accounted for to understand the real impact on net income.

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