What tax-free yield must an individual in the 28% tax bracket receive from a municipal bond to equal a 9% taxable yield on a corporate bond?

What tax-free yield must an individual in the 28% tax bracket receive from a municipal bond to equal a 9% taxable yield on a corporate bond?

• A. 2.5%
• B. 6.5%
• C. 12.5%
• D. 32.1%

Answer: (B)

To determine the tax-free yield from a municipal bond that would equate to a 9% taxable yield on a corporate bond for someone in the 28% tax bracket, the formula used is based on the concept of tax-equivalent yield. The tax-equivalent yield allows investors to compare the yields of taxable and tax-exempt bonds effectively. The calculation for the tax-equivalent yield is: Taxable Yield x (1 - Tax Bracket) = Tax-Free Yield In this case, the taxable yield is 9% and the tax bracket is 28% (expressed as 0.28 in calculations). Plugging in the numbers, we have: 9% x (1 - 0.28) = Tax-Free Yield 9% x 0.72 = Tax-Free Yield Tax-Free Yield = 6.48% Rounding this off, the result is approximately 6.5%. This means that an individual in the 28% tax bracket must receive a tax-free yield of about 6.5% from the municipal bond to match the after-tax yield of a 9% taxable bond. This process highlights the impact of taxes on investment decisions, as tax-exempt securities often provide attractive alternatives for those

To determine the tax-free yield from a municipal bond that would equate to a 9% taxable yield on a corporate bond for someone in the 28% tax bracket, the formula used is based on the concept of tax-equivalent yield. The tax-equivalent yield allows investors to compare the yields of taxable and tax-exempt bonds effectively.

The calculation for the tax-equivalent yield is:

Taxable Yield x (1 - Tax Bracket) = Tax-Free Yield

In this case, the taxable yield is 9% and the tax bracket is 28% (expressed as 0.28 in calculations). Plugging in the numbers, we have:

9% x (1 - 0.28) = Tax-Free Yield

9% x 0.72 = Tax-Free Yield

Tax-Free Yield = 6.48%

Rounding this off, the result is approximately 6.5%.

This means that an individual in the 28% tax bracket must receive a tax-free yield of about 6.5% from the municipal bond to match the after-tax yield of a 9% taxable bond. This process highlights the impact of taxes on investment decisions, as tax-exempt securities often provide attractive alternatives for those