A tax shield is the reduction in income taxes that results from taking an allowable deduction from taxable income. For example, because interest on debt is a tax-deductible expense, taking on debt creates a tax shield. Since a tax shield is a way to save cash flows, it increases the value of the business, and it is an important aspect of business valuation.

Case A

Consider one unit of investment cost $1,000 and returns $1,100 at the end of year 1. Assume tax rate of 20%. If an investor pays $1,000 of capital, at the end of the year, he will have ($1,000 return of capital, $100 income and -$20 tax) $1,080. He earned net income of $80, or 8% return on capital.

[edit]Case B

Consider the investor has an option to borrow $4000 at 8% interest (same rate as return of capital in Case A). By borrowing $4,000 (+$1,000 capital), the investor can purchase 5 units of investment. At the end of the year he will have ($5,000 return of capital, -$4,000 repayment of debt, $500 revenue, -$320 interest payment and -$36 tax) considering $1000 initial capital he is left with $1,144. He earned net income $144, or 14.4%.

The reason that he was able to earn additional income is because the cost of capital (opportunity cost, 8%) is not deductible for tax purposes, but the cost of debt (interest, 8%) is.

[edit]Value of the Tax Shield

In most business valuation scenarios, it is assumed that the business will continue forever. Under this assumption, the value of the tax shield is: interest bearing debt x tax rate.

Using the above examples:

• Assume Case A brings $80 after tax income per year, forever.
• Assume Case B brings $144 after tax income per year, forever.

• Value of firm in Case A: $80/0.08 = $1,000
• Value of firm in Case B: $144/0.08 = $1,800
• Increase in firm value due to tax shield: $1,800 - $1,000 = $800
• Debt x tax rate: $4,000 x 20% = $800

In financial markets, a share is a unit of account for various financial instruments including stocks, mutual funds, limited partnerships, and REIT's. In British English, use of the word shares in the plural to refer to stock is so common that it almost replaces the word stock itself. In American English, the plural stocks is widely used instead of shares, in other words to refer to the stock (or perhaps originally stock certificates) of even a single company. Traditionalist demands that the plural stocks be used only when referring to stock of more than one company are rarely heard nowadays. The income received from shares is called a dividend, and a person owning shares is called a shareholder. A share of stock is one of a finite number of equal portions in the capital of a company, entitling the owner to a proportion of distributed, non-reinvested profits known as dividends, and to a portion of the value of the company in case of liquidation. Shares can be voting or non-voting, meaning they either do or do not carry the right to vote on the board of directors and corporate policy. Whether this right exists often affects the value of the share. Voting and non-voting shares are also known as Class A and B shares respectively.