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Which of the following features makes debt a popular source of finance for companies: Lenders may seek protection for their debt through the use of loan covenants. Companies have a legal obligation to pay interest and repay the loan capital as per the terms agreed in the loan contract. The interest expense paid on debt is tax -deductible. Lenders may require the company's non-current assets to be used as securities (collateral) against the debt.

Question

Which of the following features makes debt a popular source of finance for companies:
Lenders may seek protection for their debt through the use of loan covenants.
Companies have a legal obligation to pay interest and repay the loan capital as per the terms agreed in the loan contract.
The interest expense paid on debt is tax -deductible.
Lenders may require the company's non-current assets to be used as securities (collateral) against the debt.

Which of the following features makes debt a popular source of finance for companies: Lenders may seek protection for their debt through the use of loan covenants. Companies have a legal obligation to pay interest and repay the loan capital as per the terms agreed in the loan contract. The interest expense paid on debt is tax -deductible. Lenders may require the company's non-current assets to be used as securities (collateral) against the debt.

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VictorElite · Tutor for 8 years

Answer

'The interest expense paid on debt is tax-deductible.'

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## Step1: <br />This question requires an understanding of the fundamental dynamics that make debt an appealing financing solution for companies. We need to evaluate each potential answer individually to make this determination, eliminating those choices that reflect drawbacks or neutral aspects of debt financing rather than positive features.<br /><br />## Step2:<br />The first option is 'Lenders may seek protection for their debt through the use of loan covenants.' This statement represents a benefit for the lenders as opposed to being appealing to the borrower or the company. Therefore, the first choice can't be the answer to why debt is desired by companies.<br /><br />## Step3:<br />The second option is 'Companies have a legal obligation to pay interest and repay the loan capital as per the terms agreed in the loan contract,' this is a characteristic of undertaking any debt and it's more of an obligation rather than an attractive feature making the business opt for debt financing. So, the second option can't be the right choice.<br /><br />## Step4:<br />Looking at the third choice, 'The interest expense paid on debt is tax-deductible.' This indeed makes the debt attractive to businesses. It increases their after-tax revenue. Therefore here we have found our answer.<br /><br />## Step5:<br />Nevertheless, let's review the last choice as well. As quoted 'Lenders may require the company's non-current assets to be used as securities (collateral) against the debt,' this requires businesses to risk assets, surely this isn't any enticing feature for the company and can't be termed as an incentive therefore eliminating the fourth option.
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