1. What Is Tax Equivalent Yield?

Tax Equivalent Yield (TEY) is a calculation that allows investors to compare the yield of a tax-free municipal bond with that of a taxable bond. It shows what yield you would need to earn on a taxable investment to match the after-tax return of a tax-free investment.

2. How Does The Calculator Work?

The calculator uses the Tax Equivalent Yield formula:

Where:

• \( \text{Municipal Yield} \) — The yield percentage of the tax-free municipal bond
• \( \text{Tax Rate} \) — Your marginal tax rate expressed as a decimal (e.g., 0.25 for 25%)

Explanation: This formula adjusts the tax-free yield to show what equivalent taxable yield would be needed to provide the same after-tax return.

3. Importance Of Tax Equivalent Yield

Details: TEY helps investors make informed decisions when comparing taxable and tax-free investment options. It's particularly useful for high-income investors in higher tax brackets who can benefit significantly from tax-free investments.

4. Using The Calculator

Tips: Enter the municipal bond yield as a percentage (e.g., 3.5 for 3.5%) and your marginal tax rate as a decimal (e.g., 0.32 for 32%). Both values must be valid (yield > 0, tax rate between 0-0.9999).

5. Frequently Asked Questions (FAQ)

Q1: Why is tax equivalent yield important for investors?
A: It allows investors to compare taxable and tax-free investments on an equal basis, helping them choose the option that provides the best after-tax return.

Q2: What tax rate should I use in the calculation?
A: Use your marginal tax rate - the highest tax bracket that applies to your income - as this represents the tax savings from tax-free investments.

Q3: Are municipal bonds always tax-free?
A: Most municipal bonds are exempt from federal income tax, but some may be subject to state or local taxes depending on your residence and the bond's origin.

Q4: How does tax equivalent yield change with different tax brackets?
A: Higher tax brackets result in higher tax equivalent yields, making tax-free investments more attractive for investors in higher tax brackets.

Q5: Should I only consider tax equivalent yield when choosing investments?
A: No, TEY is just one factor. Also consider credit risk, duration, liquidity, and your overall investment objectives and risk tolerance.