LO.2 Redbird, Inc., does not provide its employees with any tax-exempt fringe benefits.

The company is considering adopting a hospital and medical benefits insurance plan that will cost approximately $7,000 per employee. In order to adopt this plan, the company may have to reduce salaries and/or lower future salary increases. Redbird is in the 35% (combined Federal and state rates) income tax bracket. Redbird is also responsible for matching the Social Security and Medicare taxes withheld on employees’

salaries. The benefits insurance plans will not be subject to the Social Security and Medicare taxes. The employees generally fall into three marginal tax rate groups:

Income Tax Social Security and Medicare Tax Total

.15 .0765 .2265

.25 .0765 .3265

.35 .0145 .3645 The company has asked you to assist in its financial planning for the benefits insurance plan by computing the following:

a. How much taxable compensation is the equivalent to $7,000 of exempt compensation for each of the three classes of employees?

b. What is the company’s after-tax cost of the taxable compensation computed in (a)

above?

c. What is the company’s after-tax cost of the exempt compensation?

d. Briefly explain your conclusions from the above analysis.