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Tax swap

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Definition of Tax swap

Tax Swap Image 1

Tax swap

swapping two similar bonds to receive a tax benefit.

Related Terms:

After-tax profit margin

The ratio of net income to net sales.

After-tax real rate of return

Money after-tax rate of return minus the inflation rate.

Amortizing interest rate swap

swap in which the principal or national amount rises (falls) as interest rates
rise (decline).

Asset for asset swap

Creditors exchange the debt of one defaulting borrower for the debt of another
defaulting borrower.

Asset swap

An interest rate swap used to alter the cash flow characteristics of an institution's assets so as to
provide a better match with its iabilities.

Asymmetric taxes

A situation wherein participants in a transaction have different net tax rates.

Average tax rate

taxes as a fraction of income; total taxes divided by total taxable income.

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average tax rate

Total taxes owed divided by total income.

Before-tax profit margin

The ratio of net income before taxes to net sales.

Break-even tax rate

The tax rate at which a party to a prospective transaction is indifferent between entering
into and not entering into the transaction.

Call swaption

A swaption in which the buyer has the right to enter into a swap as a fixed-rate payer. The
writer therefore becomes the fixed-rate receiver/floating rate payer.

Cash flow after interest and taxes

Net income plus depreciation.

Circus swap

A fixed rate currency swap against floating U.S. dollar LIBOR payments.

Corporate tax view

The argument that double (corporate and individual) taxation of equity returns makes
debt a cheaper financing method.

Corporate taxable equivalent

Rate of return required on a par bond to produce the same after-tax yield to
maturity that the premium or discount bond quoted would.

Currency swap

An agreement to swap a series of specified payment obligations denominated in one currency
for a series of specified payment obligations denominated in a different currency.

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Current Income Tax Expense

That portion of the total income tax provision that is based on
taxable income.

Current Tax Payment Act of 1943

A federal Act requiring employers to withhold income taxes from employee pay.

Debt swap

A set of transactions (also called a debt-equity swap) in which a firm buys a country's dollar bank
debt at a discount and swaps this debt with the central bank for local currency that it can use to acquire local

Deferred Income Tax Expense

That portion of the total income tax provision that is the result
of current-period originations and reversals of temporary differences.

Deferred Tax Asset

Future tax benefit that results from (1) the origination of a temporary difference
that causes pretax book income to be less than taxable income or (2) a loss, credit, or other
carryforward. Future tax benefits are realized on the reversal of deductible temporary differences
or the offsetting of a loss carryforward against taxable income or a tax-credit carryforward against
the current tax provision.

Deferred Tax Liability

Future tax obligation that results from the origination of a temporary
difference that causes pretax book income to exceed taxable income.

Deferred taxes

A non-cash expense that provides a source of free cash flow. Amount allocated during the
period to cover tax liabilities that have not yet been paid.

Depreciation tax shield

The value of the tax write-off on depreciation of plant and equipment.

depreciation tax shield

Reduction in taxes attributable to the depreciation allowance.

Differential swap

swap between two LIBO rates of interest, e.g. yen LIBOR for dollar LIBOR. Payments are
in one currency.

Double-tax agreement

Agreement between two countries that taxes paid abroad can be offset against
domestic taxes levied on foreign dividends.

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earnings before interest and income tax (EBIT)

A measure of profit that
equals sales revenue for the period minus cost-of-goods-sold expense
and all operating expenses—but before deducting interest and income
tax expenses. It is a measure of the operating profit of a business before
considering the cost of its debt capital and income tax.

Earnings before interest and taxes (EBIT)

A financial measure defined as revenues less cost of goods sold
and selling, general, and administrative expenses. In other words, operating and non-operating profit before
the deduction of interest and income taxes.

Earnings before interest and taxes (EBIT)

The operating profit before deducting interest and tax.

Earnings before interest, taxes, depreciation and amortization (EBITDA)

The operating profit before deducting interest, tax, depreciation and amortization.

Earnings Before Interest, Taxes, Depreciation, and Amortization (EBITDA)

An earningsbased measure that, for many, serves as a surrogate for cash flow. Actually consists of working
capital provided by operations before interest and taxes.

EBDDT - Earnings before depreciation and deferred taxes

This measure is used principally by
firms in the real estate industry, with the exception of real estate investment trusts, which typically
do not pay taxes.

Effective Tax Rate

The total tax provision divided by pretax book income from continuing

Electronic Federal Tax Payment Systems (EFTPS)

An electronic funds transfer system used by businesses to remit taxes to the government.

Equity swap

A swap in which the cash flows that are exchanged are based on the total return on some stock
market index and an interest rate (either a fixed rate or a floating rate). Related: interest rate swap.

Equivalent taxable yield

The yield that must be offered on a taxable bond issue to give the same after-tax
yield as a tax-exempt issue.

Extension swap

Extending maturity through a swap, e.g. selling a 2-year note and buying one with a slightly
longer current maturity.

Federal Unemployment Tax Act (FUTA)

A federal Act requiring employers to pay a tax on the wages paid to their employees, which is then used to create a
pool of funds to be used for unemployment benefits.

Foreign exchange swap

An agreement to exchange stipulated amounts of one currency for another currency
at one or more future dates.

Foreign tax credit

Home country credit against domestic income tax for foreign taxes paid on foreign
derived earnings.

Imputation tax system

Arrangement by which investors who receive a dividend also receive a tax credit for
corporate taxes that the firm has paid.


What the business paid to the IRS.

Income tax

A government tax on the income earned by an individual or corporation.

Income Tax Expense

See income tax provision.

Income Tax Provision

The expense deduction from pretax book income reported on the
income statement. It consists of both current income tax expense and deferred income tax
expense. The terms income tax expense and income tax provision are used interchangeably.

Indirect Taxes

taxes paid by consumers when they buy goods and services. A sales tax is an example.

Inflation Tax

The loss in purchasing power due to inflation eroding the real value of financial assets such as cash.

Interest equalization tax

tax on foreign investment by residents of the U.S. which was abolished in 1974.

Interest rate swap

A binding agreement between counterparties to exchange periodic interest payments on
some predetermined dollar principal, which is called the notional principal amount. For example, one party
will pay fixed and receive variable.

Interest tax shield

The reduction in income taxes that results from the tax-deductibility of interest payments.

interest tax shield

tax savings resulting from deductibility of interest payments.

Intermarket spread swaps

An exchange of one bond for another based on the manager's projection of a
realignment of spreads between sectors of the bond market.

Investment tax credit

Proportion of new capital investment that can be used to reduce a company's tax bill
(abolished in 1986).

Investment Tax Credit

A reduction in taxes offered to firms to induce them to increase investment spending.

Liability swap

An interest rate swap used to alter the cash flow characteristics of an institution's liabilities so
as to provide a better match with its assets.

Limited-tax general obligation bond

A general obligation bond that is limited as to revenue sources.

Margin Tax Rate

The tax rate applicable to the last unit of income.

Marginal tax rate

The tax rate that would have to be paid on any additional dollars of taxable income earned.

marginal tax rate

Additional taxes owed per dollar of additional income.

Marginal Tax Rate

Percent of an increase in income paid in tax.

Payroll tax expense

The amount of tax associated with salaries that an employer pays to governments (federal, state, and local).

Payroll taxes payable

The amount of payroll taxes owed to the various governments at the end of a period.

Personal tax view (of capital structure)

The argument that the difference in personal tax rates between
income from debt and income from equity eliminates the disadvantage from the double taxation (corporate
and personal) of income from equity.

Profit before interest and taxes (PBIT)


Progressive Tax

A tax in which the rich pay a larger percentage of income than the poor. Contrast with regressive tax.

Progressive tax system

A tax system wherein the average tax rate increases for some increases in income but
never decreases with an increase in income.

Proportional Tax

A tax taking the same percentage of income regardless of the level of income.

Pure yield pickup swap

Moving to higher yield bonds.

Put swaption

A financial tool in which the buyer has the right, or option, to enter into a swap as a floatingrate
payer. The writer of the swaption therefore becomes the floating-rate receiver/fixed-rate payer.

Quanto swap

See: differential swap.

Rate anticipation swaps

An exchange of bonds in a portfolio for new bonds that will achieve the target
portfolio duration, based on the investor's assumptions about future changes in interest rates.

Regressive Tax

A tax in which the poor pay a larger percentage of income than the rich. Contrast with progressive tax.

Roth IRA. An IRA account whose earnings are not taxable at all under certain


Sales Tax

A tax levied as a percentage of retail sales.

Short-term tax exempts

Short-term securities issued by states, municipalities, local housing agencies, and
urban renewal agencies.

Split-rate tax system

A tax system that taxes retained earnings at a higher rate than earnings that are
distributed as dividends.

State Disability Tax

A tax charged by selected states to maintain a disability insurance
fund, from which payments are made to employees who are unable to
work due to illness or injury.

Statutory Tax Rate

The income tax rate that is stated in income tax law. It is applied to taxable
income reported in income tax returns. The U.S. Federal statutory corporate income tax rate
starts out at 15% for taxable income up to $50,000 and rises quickly to 35%.

Substitution swap

A swap in which a money manager exchanges one bond for another bond that is similar in
terms of coupon, maturity, and credit quality, but offers a higher yield.


An arrangement whereby two companies lend to each other on different terms, e.g. in different
currencies, and/or at different interest rates, fixed or floating.


An exchange of cash flows between two counterparties. The
counterparties may exchange flows in different currencies
(currency swap) or exchange floating interest rate payments for
fixed rate payments (interest rate swap).


A contract between two parties to exchange cash flows in the future
according to some formula.


Arrangement by two counterparties to exchange one stream of cash flows for another.

Swap assignment

Related: swap sale.

Swap buy-back

The sale of an interest rate swap by one counterparty to the other, effectively ending the swap.

Swap optio

See: swaption.
Related: Quality option.

Swap rate

The difference between spot and forward rates expressed in points, e.g., $0.0001 per pound sterling.

Swap reversal

An interest rate swap designed to end a counterparty's role in another interest rate swap,
accomplished by counterbalancing the original swap in maturity, reference rate, and notional amount.

Swap sale

Also called a swap assignment, a transaction that ends one counterparty's role in an interest rate
swap by substituting a new counterparty whose credit is acceptable to the other original counterparty.


Options on interest rate swaps. The buyer of a swaption has the right to enter into an interest rate
swap agreement by some specified date in the future. The swaption agreement will specify whether the buyer
of the swaption will be a fixed-rate receiver or a fixed-rate payer. The writer of the swaption becomes the
counterparty to the swap if the buyer exercises.


A swap option; an option on an interest-rate swap. The option gives
the holder the right to enter into a contracted interest-rate swap at a specified
future date. See swap.

TANs (tax anticipation notes)

tax anticipation notes issued by states or municipalities to finance current
operations in anticipation of future tax receipts.

Tax anticipation bills (TABs)

Special bills that the Treasury occasionally issues that mature on corporate
quarterly income tax dates and can be used at face value by corporations to pay their tax liabilities.

tax benefit (of depreciation)

the amount of depreciation deductible for tax purposes multiplied by the tax rate;
the reduction in taxes caused by the deductibility of depreciation

Tax books

Set of books kept by a firm's management for the IRS that follows IRS rules. The stockholder's
books follow Financial Accounting Standards Board rules.

Tax clawback agreement

An agreement to contribute as equity to a project the value of all previously
realized project-related tax benefits not already clawed back to the extent required to cover any cash
deficiency of the project.

tax deferral

postponing taxation of an amount until a future date

Tax deferral option

The feature of the U.S. Internal Revenue Code that the capital gains tax on an asset is
payable only when the gain is realized by selling the asset.







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