The after-tax yield is the yield on a taxable bond after federal income taxes are paid. It is computed with the following formula.

Formula 14.5

After-tax yield = pre-tax yield x (1- marginal rate)

The marginal rate will vary depending on the tax bracket the investor is at that given time.

Example: Taxable Bond Yield
Taxable bond yield is 7.5%
The Marginal tax rate for this investor is 31%

Answer:
After-tax yield = .075 x (1-.31)
= .05175
= 5.175%

Tax-Equivalent Yield
The tax-equivalent yield is the yield that must be offered on a taxable bond issue to give the same after-tax yield as a tax-exempt issue. It is computed with the following formula.

Formula 14.6

Taxable-equivalent yield = tax-exempt yield / (1- marginal tax rate)

Example: Tax-Exempt Yield
Tax exempt yield = 5.00%
Marginal Tax Rate = 31%

Answer:
Taxable-equivalent yield = .05 / (1-.31)
= .05 / .69
= .072464
= 7.2464 %

This means that a taxable issue must yield more than 7.25 % for the investor at the 31% tax bracket in order to beat the 5% yield offer in the tax-exempt bond.


Look Out!

Notice that the higher the marginal tax rate, the higher the taxable equivalent yield would be needed in the taxable bond market.



London Interbank Offer Rate (LIBOR)

Related Articles
  1. Investing

    Calculating the Tax-Equivalent Yield

    Tax-equivalent yield is the pretax yield a taxable bond must possess for its yield to equal that of a tax-free municipal bond.
  2. Managing Wealth

    Finding The Best Yields

    Using yields to supplement earnings can mean big bucks, with the right strategy.
  3. Retirement

    Why Retirees Can't Count on Muni Bonds

    Interest may not be tax-exempt for seniors with Medicare or Social Security benefits.
  4. Investing

    Understanding the Different Types of Bond Yields

    Any investor, private or institutional, should be aware of the diverse types and calculations of bond yields before an actual investment.
  5. Investing

    3 Tax-Reduction Strategies for High-Net-Worth Investors

    Learn about three tax strategies that reduce taxable income and minimize the share of taxes paid on employer-sponsored and individual investment accounts.
  6. Investing

    Bond Yields: Current Yield And YTM

    A bond's current yield, also called "bond yield," is the interest it pays annually divided by the bond's price. A stock's current yield, also called "dividend yield," is the sum of its annual ...
  7. Investing

    Calculating Yield to Worst

    Yield to worst is the lowest possible yield on a bond that may be called in the future.
  8. Investing

    What You Need To Know About Bond ETF Yields

    When it comes to fixed income investing, yield is an important component of a bond investment’s total return to accurately assess if it's the right move.
  9. Investing

    Calculating Bond Equivalent Yield

    The bond equivalent yield calculates the semi-annual, quarterly or monthly yield on a discount bond or note.
Trading Center