Question

Sara Nixon is looking for a fixed-income investment. She is considering two bond issues:

a. A Treasury with a yield of 5%

b. An in-state municipal bond with a yield of 4% Sara is in the 33% federal tax bracket and the 8% state tax bracket.

Which bond would provide Sara with a higher tax-adjusted yield?

Answer 1

Tax adjusted return = Return ( 1 - tax rate )

Federal tax bracket is applicable on Treasury bond

State tax bracket is applicable on Municipal bond

Return on Treasury bond = 5%

Tax adjusted return = 5% ( 1 - 0.33 )

= 3.35%

Return on State municipal bond = 4%

Tax adjusted return = 4% ( 1 - 0.08)

= 3.68%

Decision:- Municipal bond would provide Sara higher tax adjusted yield.