Transparent method
The formula
Worked example
Example inputs
How to interpret the result
A municipal bond's headline yield looks smaller than a taxable bond's, and comparing the two numbers directly gets the ranking backward for anyone in a meaningful tax bracket. The tax-exempt yield needs to be grossed up to what a taxable bond would have to pay to leave the same amount after tax, only then are the two figures actually measuring the same thing.
Before you rely on it
What to check
Use your actual marginal tax rate, including state tax if the bond is also state-exempt, not a rough guess at your bracket.
The common error
Where people go wrong with tax-equivalent yield calculator
Comparing a muni's stated yield directly against a corporate bond's stated yield. The muni is quoted with its tax advantage already priced in; the comparison only works once both are converted to the same taxable basis.
Sensitivity evidence
How marginal tax rate changes the tax-equivalent yield
| Marginal tax rate | Tax-equivalent yield | Taxable-yield premium |
|---|---|---|
| 20.0% | 4.4% | 0.875% |
| 22.0% | 4.5% | 0.987% |
| 24.0%worked example | 4.6% | 1.1% |
| 26.0% | 4.7% | 1.2% |
| 28.0% | 4.9% | 1.4% |
Every input, tested
Which input moves the tax-equivalent yield most
| Input | Tested from | To | Tax-equivalent yield at each end | Swing |
|---|---|---|---|---|
| Tax-exempt yield | 2.5% | 4.5% | 3.3% to 5.9% | 2.6% (57%) |
| Marginal tax rate | 22.0% | 26.0% | 4.5% to 4.7% | 0.243% (5.3%) |
Two variables at once
Tax-equivalent yield by marginal tax rate and tax-exempt yield
| Marginal tax rate \ Tax-exempt yield | 1.5% | 3.5% | 5.5% |
|---|---|---|---|
| 20.0% | 1.9% | 4.4% | 6.9% |
| 22.0% | 1.9% | 4.5% | 7.1% |
| 24.0% | 2.0% | 4.6% | 7.2% |
| 26.0% | 2.0% | 4.7% | 7.4% |
| 28.0% | 2.1% | 4.9% | 7.6% |
Step by step
The worked example, input by input
| Input | Value used |
|---|---|
| Tax-exempt yield | 3.5% |
| Marginal tax rate | 24.0% |
| Tax-equivalent yield | 4.6% |
| Taxable-yield premium | 1.1% |
Where the inputs come from
Tax-exempt yield is the yield on a municipal bond or municipal bond fund, whose interest is generally free of federal income tax, and the marginal tax rate is your top federal bracket, plus the net investment income tax if it applies, and state tax if you would pay state tax on a comparable taxable bond. Use the yield to maturity or the SEC yield for a fund. Take your bracket from your latest return.
When the result stops applying
Municipal bonds carry credit and interest-rate risk, and some interest is subject to the alternative minimum tax. Muni bonds are wasted inside an IRA or 401(k), where taxable bond interest is already sheltered. In-state bonds may also avoid state tax, which the calculator does not include unless you fold it into the rate. Yields change daily.
What to compare it with
Compare with CDs and savings on the CD and APY calculators, and see the federal income tax page for your bracket. The bond category's yield to maturity, duration and coupon calculators explain what the yield means. The capital gains tax calculator shows the tax on price changes in bonds.
People also ask
Frequently asked questions
Who benefits most from municipal bonds?
Investors in high tax brackets holding bonds in taxable accounts, since the exemption is worth more the higher the tax rate.
Are municipal bonds risk free?
No. They carry credit risk from the issuer and price risk when rates rise, though defaults on general obligation bonds are historically rare.
Should I hold muni bonds in an IRA?
Generally not. Retirement accounts already shelter interest, so you would give up yield for a tax benefit you cannot use.