How to Use This Tool
Follow these steps to calculate your tax equivalent yield:
- Enter the yield of your tax-exempt investment (e.g., municipal bond) as a percentage in the Tax-Exempt Investment Yield field.
- Enter your marginal federal income tax rate as a percentage. This is the highest tax bracket you fall into for federal income tax.
- Optionally enter your marginal state income tax rate if applicable.
- Optionally enter your total investment amount in dollars to calculate estimated annual tax savings.
- Select your preferred calculation basis from the dropdown: Federal Only or Federal + State.
- Click the Calculate button to view your results. Use the Reset button to clear all fields and start over.
Formula and Logic
The core formula for tax equivalent yield (TEY) calculates the taxable yield an investment would need to generate to match the after-tax return of a tax-exempt investment:
TEY = Tax-Exempt Yield / (1 - Marginal Tax Rate)
For calculations including state tax, we first calculate the combined effective tax rate, accounting for the federal tax deductibility of state income tax payments:
Combined Tax Rate = Federal Rate + State Rate - (Federal Rate * State Rate / 100)
The combined TEY uses this combined rate in the core formula. All results are rounded to two decimal places for clarity.
Practical Notes
Keep these finance-specific considerations in mind when using this tool:
- Marginal tax rates are progressive: your marginal rate is the rate applied to your last dollar of income, not your average rate. Check your most recent tax return to confirm your marginal bracket.
- Municipal bonds are typically exempt from federal tax, but some may be subject to state tax if issued outside your state of residence. Verify the tax status of your specific investment.
- State tax deductibility on federal returns is subject to the Tax Cuts and Jobs Act (TCJA) cap of $10,000 for state and local tax (SALT) deductions through 2025. Adjust inputs if this cap applies to you.
- Tax equivalent yield does not account for investment risk, liquidity, or fees. Always compare total investment costs and risk profiles before making decisions.
- Treasury bonds are exempt from state and local tax, but subject to federal tax. Use the federal only calculation basis for Treasury investments.
Why This Tool Is Useful
Tax-exempt investments like municipal bonds often have lower stated yields than taxable alternatives like certificates of deposit (CDs) or corporate bonds. This tool helps you:
- Compare apples-to-apples returns across taxable and tax-exempt accounts.
- Make informed decisions about allocating funds to retirement accounts, taxable brokerage accounts, or municipal bonds.
- Estimate potential tax savings for high-yield tax-exempt investments.
- Adjust calculations for state tax implications based on your location.
- Validate advice from financial planners or investment advisors.
Frequently Asked Questions
What is a marginal tax rate?
Your marginal tax rate is the percentage of tax applied to your last dollar of taxable income. For example, if you are in the 22% federal tax bracket, every additional dollar you earn is taxed at 22% (up to the bracket limit). This is different from your effective tax rate, which is the average rate applied to all your taxable income.
Does this tool account for capital gains tax?
No, this tool only calculates tax equivalent yield for ordinary interest income, which is taxed at your marginal income tax rate. Capital gains from selling investments are taxed at different rates (0%, 15%, or 20% for most taxpayers) and are not included in this calculation.
Can I use this for retirement account investments?
Tax-exempt investments held in retirement accounts like 401(k)s or IRAs do not provide additional tax benefits, as these accounts are already tax-deferred or tax-free. This tool is intended for taxable brokerage account investments only.
Additional Guidance
For most accurate results, use your current year marginal tax rates from your latest tax return. If tax laws change (such as TCJA provisions expiring in 2025), update your rate inputs accordingly. Consult a certified public accountant (CPA) or financial planner for personalized advice tailored to your specific financial situation, especially if you have complex income sources or deductions.
Always verify the tax status of any investment with your broker or the investment issuer before relying on yield comparisons. This tool provides estimates only and does not constitute financial or tax advice.