Tax equivalent yield

What is tax-equivalent yield (Tey)? Other articles from investopedia. This tax equivalent yield calculator will estimate the tax-equivalent yield , or TEY, for a municipal bond. Income generated from municipal bond coupon payments are not subject to federal income.

The tax-equivalent yield is the pre-tax yield that a taxable bond must offer in order to equal the yield of a tax-free bond. IMAGE SOURCE: GETTY IMAGES.

The tax equivalent yield formula is used to compare the yield between a tax-free investment and an investment that is taxed. One of the most common examples of a tax-free investment is municipal bonds. Municipal bonds are generally issued by local governments to finance development in its local community. It is not, however, the end of the story and some additional tax considerations can come into play when making such a comparison.

Tax -free investments such as municipal bonds have lower yields due to their tax -exempt status. Use this calculator to determine an equivalent yield on a taxable investment. The higher your marginal tax bracket (state and federal), the higher the tax-equivalent yield. The following shows how to calculate the tax-equivalent yield in a few steps: Find the reciprocal of your tax rate , or in other words, use (– your tax rate ).

If you pay percent tax , for example, your reciprocal would be (5) =. In other words, the calculator can help you make an apples-to-apples comparison between taxable and tax-free investments. For the same reason, municipal bonds whose interest is exempt from state and local income tax may yield less than municipal bonds whose interest is taxed in a particular jurisdiction. When considering potential investments in different types of bonds, you should evaluate yields on a tax-equivalent basis,. A tax-equivalent yield is the pre-tax yield that a taxable bond must offer in order to equal the yield of a tax-free municipal bond.

Tax Equivalent Yield simply means how much yield (pre- tax returns) you would earn if you need to pay taxes on your tax -free investments. This will help you compare the yield between a tax -free investment and a taxed investment and you would be able to find out whether the taxed investment is a good deal or not. To see this formula in use, let’s say that you are considering a muni bond with an interest rate, and you are in a tax bracket that sees your federal taxes set at.

Taxable equivalent yield (also called equivalent taxable interest rate) is the return that is required on a taxable investment to make it equal to the return on a tax -exempt investment. The taxable equivalent yield is commonly used when evaluating municipal bond returns. All you need is the yield on the bond and your marginal tax rate, since interest earned on bonds is taxed as regular income. You can use the current income tax brackets to find your marginal tax rate.

The formula for the equivalent taxable yield is tax-exempt interest rate ÷ (1- your tax rate). So, for example, if a municipal bond pays an annual interest rate of , and your tax rate is , the equivalent taxable yield would be ÷ (1- 35) = 10. The tax - equivalent yield provides a method of determining the return on a taxable bond or alternative investment in comparison with the return on a tax -exempt bond or investment. The TEY is frequently employed to assess the expected returns on municipal bonds, which are frequently referred to as muni bonds.

For an example, let’s assume you live in California, and have a taxable income of $10000.

When you are looking at fixed income investments, you have a few choices. The Taxable Equivalent Yield Calculator is useful for comparing the yield of municipal bonds (which are generally tax free although there are different types of municipal bonds: general obligation municipal bonds and municipal revenue bonds – the former are usually tax free while the latter are usually not) with the yield of taxable bonds. The TEY is only one factor that should be considered when purchasing a security, and is meant to be used only as a general guideline when determining taxable equivalent yields for agency and treasury securities. Access IRS Tax Forms.

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