What is an After-Tax Return
An after-tax return is any profit made on an investment after subtracting the amount due for taxes. Many businesses and high-income investors will use after-tax return to determine their actual earnings. An after-tax return may be expressed nominally or as a ratio.
BREAKING DOWN After-Tax Return
After-tax returns break down performance data into "real-life" form for individual investors. Those investors in the highest tax bracket will use municipals and high-yield stock to increase their after-tax returns. Capital gains from short hold investments due to frequent trading are subject to high tax rates.
Businesses and high tax bracket investors use after-tax return to determine their actual profit. As an example, say an investor, paying taxes in the 30 percent bracket, held a municipal bond that earned $100 interest. When they deduct the $30 tax due on income from the investment, their actual earning are only $70.
High tax bracket investors don’t like it when their profits are bled off in taxes. Different tax rates for gains and losses means that before tax and after tax profitability may vary widely for these investors. These investors will forego investments with higher before tax returns in favor of investments with lower before tax returns if lower applicable tax rates result in higher after-tax returns. For this reason, investors in the highest tax brackets often prefer investments like municipal or corporate bonds or stocks that are taxed at no or lower capital tax rates.
An after-tax return can be expressed nominally as the difference between an investment’s beginning market value and ending market value plus any dividends, interest or other income received and minus any costs or taxes paid. After-tax can be represented as the ratio of after-tax return to beginning market value, which measures the value of the investment’s after-tax profit, relative to its cost.
Figuring After-Tax Returns
It is necessary to figure taxes correctly figured before they are input into the after-tax return formula. You should only include income received and costs paid during the reporting period. Also, remember, appreciation is not taxable until it is reduced to proceeds received in a sale or disposition of an underlying investment.
Determination of the applicable tax rate is by the character of the profit or loss for that item. The gains on interest and non-qualified dividends are taxed at an ordinary tax rate. Profits on sale proceeds and those from qualified dividends fall into the tax bracket of short-term or long-term capital gains tax rates.
When the inclusion of several individual items is required, multiply each item by the correct tax rate for that item. Once all individual figures are complete, add them together to arrive at a total.