




The equivalent taxable yield is used by investors to compare the yield of a taxable bond (i.e. government bond or corporate bond) with that of a taxfree bond (i.e. municipal bond). When computing the equivalent taxable yield, an investor wants to determine the minimum yield required in order to receive the same return with both instruments. The equivalent taxable yield takes into account local, state, and federal taxes that must be paid. The formula to calculate the equivalent taxable yield is:
Equivalent Taxable Yield = TaxFree Bond Yield / (1  Investor's Tax Rate)
In the calculation of the equivalent taxable yield, the investor's income tax rate is the sum of the marginal federal tax rate and effective state tax rate (i.e. state and local if applicable). Based on the above formula, it is evident that the equivalent taxable yield increases with the investor's marginal tax rate. Therefore, an investor in a higher tax bracket will calculate a higher equivalent taxable yield making taxfree bonds more valuable. Likewise, an investor living in a state with higher state/local taxes will compute a higher equivalent taxable yield and may too find taxfree bonds more valuable. Below is an equivalent taxable yield calculation example:
TaxFree Bond Rate: 5%
Federal Marginal Bracket: 28%
Effective State Tax Rate: 9.3%
Local Tax Rate: 0%
Equivalent Taxable Yield = 5% /[1(28%+(9.3%*(128%))]
Equivalent Taxable Yield = 7.66%
Based on this equivalent taxable yield and assuming similar credit risk, a taxable bond would need to yield more than 7.66% or more to provide a better return than a taxfree bond yielding 5%. The equivalent taxable yield is also called the taxable equivalent yield (i.e. TEY).
Rate this Equivalent Taxable Yield definition...




Where is the market headed? The answer may surprise you. Find out with the exclusive & Barron's recommended charts of Chart of the Day. 

Popular Terms: 401a, real GDP, inflation, command economy, in escrow, cancelled check, exdividend, 1035 exchange, required rate of return, Key Rate Duration, stock market close, margin rate, average price per share, current ratio, deferred tax, Zero Cost Collar, stock split, EBITDA, implied volatility, LIBOR, balance sheet, risk management, FTSE, deferred revenue, per diem, labor relations, retained earnings, debt service coverage, phantom income, exdividend date, liquidity ratio, FICO score, 1031 exchange, annual return, option premium, covered put, 144a, whollyowned subsidiary, irrevocable trust, APR, reverse mortgage, minority interest, open position, VIX, quality assurance, class C shares, dividends payable, limit order, diluted share


 