Definition
Tax-equivalent yield converts tax-free municipal bond yields to their equivalent taxable yield for comparison. Higher tax brackets benefit more from munis since their tax savings are larger. It helps investors determine whether the muni's lower stated yield actually provides better after-tax returns.
Formula
Tax-Equivalent Yield = Muni Yield / (1 - Tax Rate)
Example
A 3% muni for someone in 37% bracket: TEY = 3% / (1-0.37) = 4.76%. They need a taxable bond over 4.76% to beat the muni.
FAQ
What is Tax-Equivalent Yield?
The yield a taxable bond would need to match a tax-exempt bond's after-tax return.
How do you calculate Tax-Equivalent Yield?
A common formula for Tax-Equivalent Yield is: Tax-Equivalent Yield = Muni Yield / (1 - Tax Rate)
Why is Tax-Equivalent Yield important?
Tax-Equivalent Yield helps investors evaluate fixed income and make more informed decisions.