Fidelity Tax-Equivalent Yield Calculator
Enter the annual yield of the tax-free municipal bond. For example, 3.5 for 3.5%.
Your highest federal income tax bracket. For example, 24 for 24%.
Your state income tax rate. Enter 0 if you live in a state with no income tax.
Tax-Equivalent Yield
-.–%
This is the pre-tax yield a taxable bond must offer to equal your tax-free yield.
Total Tax Rate
-.–%
After-Tax “Keep” Rate
-.–%
Tax Savings Advantage
-.–%
Tax-Equivalent Yield Across Different Tax Brackets
| Combined Tax Rate (%) | Tax-Equivalent Yield (%) |
|---|
What is a Tax-Equivalent Yield?
The Tax-Equivalent Yield (TEY) is a crucial metric used by investors, particularly those using platforms like Fidelity, to make an apples-to-apples comparison between tax-free and taxable bonds. Since municipal bonds often pay interest that is exempt from federal (and sometimes state) taxes, their stated yields are typically lower than those of taxable bonds, such as corporate bonds. The fidelity tax equivalent yield calculator helps you determine what yield a taxable bond would need to offer to match the after-tax return of a tax-free municipal bond.
This calculation is essential for investors in higher tax brackets, as the tax savings from municipal bonds become more significant. By understanding your tax-equivalent yield, you can make more informed decisions to maximize your after-tax investment returns, a key part of any sound bond investing strategy.
Tax-Equivalent Yield Formula and Explanation
The formula to calculate the tax-equivalent yield is straightforward:
Tax-Equivalent Yield = Tax-Free Yield / (1 – Combined Marginal Tax Rate)
This formula effectively scales up the tax-free yield to show its true value in a taxable context. Our fidelity tax equivalent yield calculator automates this for you.
Formula Variables
| Variable | Meaning | Unit | Typical Range |
|---|---|---|---|
| Tax-Free Yield | The stated annual interest rate of the municipal bond. | Percentage (%) | 1% – 6% |
| Combined Marginal Tax Rate | The sum of your federal and state marginal tax rates. This is the rate you pay on your next dollar of income. | Percentage (%) | 10% – 50%+ |
| Tax-Equivalent Yield | The resulting pre-tax yield a taxable investment needs to match the tax-free one. | Percentage (%) | Varies based on inputs |
Practical Examples
Example 1: Moderate Income Investor
An investor is considering a tax-free municipal bond with a 3.0% yield. Their federal tax rate is 22% and their state tax rate is 5%.
- Inputs:
- Tax-Free Yield: 3.0%
- Combined Tax Rate: 22% + 5% = 27%
- Calculation: TEY = 3.0% / (1 – 0.27) = 4.11%
- Result: This investor would need to find a taxable bond yielding at least 4.11% to beat the return of the 3.0% tax-free bond. Using a price-yield calculator can help evaluate specific taxable bond options.
Example 2: High-Income Investor
An investor in a high-tax state is looking at the same 3.0% tax-free bond. Their federal tax rate is 35% and their state tax rate is 9%.
- Inputs:
- Tax-Free Yield: 3.0%
- Combined Tax Rate: 35% + 9% = 44%
- Calculation: TEY = 3.0% / (1 – 0.44) = 5.36%
- Result: For this investor, the tax advantage is much greater. They would need a taxable bond yielding 5.36% to achieve the same after-tax return. This highlights why a fidelity tax equivalent yield calculator is so valuable for different financial situations.
How to Use This Fidelity Tax-Equivalent Yield Calculator
Our tool simplifies the process into three easy steps:
- Enter the Tax-Free Yield: Input the stated yield of the municipal bond you are considering.
- Enter Your Tax Rates: Provide your federal marginal tax rate and your state marginal tax rate. If your state has no income tax, enter 0.
- Review Your Results: The calculator instantly shows the Tax-Equivalent Yield. The intermediate values provide additional context, showing your total tax burden and the percentage point advantage of the tax-free option. The comparison table also dynamically updates, showing how the TEY changes across different tax brackets.
Key Factors That Affect Tax-Equivalent Yield
- Federal Marginal Tax Rate: The single most significant factor. The higher your federal bracket, the higher the TEY.
- State and Local Taxes: Living in a high-tax state like California or New York dramatically increases the value of in-state municipal bonds.
- Changes in Tax Law: Future changes to federal or state tax rates can alter the TEY, making tax-free bonds more or less attractive.
- Alternative Minimum Tax (AMT): Some municipal bonds, often issued for private purposes, are subject to AMT. This can negate the tax benefit for certain high-income earners.
- The Bond’s Stated Yield: The starting yield of the tax-free bond is the foundation of the entire calculation.
- Your Investment Account Type: The tax benefits of municipal bonds are realized in taxable brokerage accounts. Holding them in a tax-advantaged account like a 401(k) or IRA is generally inefficient.
Frequently Asked Questions (FAQ)
1. What is the main purpose of a fidelity tax equivalent yield calculator?
It allows investors to compare the returns of tax-free municipal bonds with taxable bonds on an equal, after-tax basis to make informed decisions.
2. Why are municipal bond yields usually lower than corporate bond yields?
Because the interest is often tax-free, investors are willing to accept a lower nominal yield in exchange for the tax savings. The market prices this advantage into the yield.
3. How do I find my marginal tax rate?
Your marginal tax rate is the rate applied to your highest layer of income. You can find it on your most recent tax return or by consulting the IRS tax brackets for the current year.
4. Does it matter if I live in a state with no income tax?
Yes. If you live in a state like Florida or Texas with no state income tax, you should enter ‘0’ for the state tax rate. The advantage of municipal bonds will be based solely on federal tax savings.
5. Are all municipal bonds tax-free?
No. Most are, but some bonds issued for projects that don’t serve a significant public purpose may be taxable. It’s crucial to check the tax status of any bond before investing.
6. What is a “double tax-free” bond?
This refers to a municipal bond that is exempt from both federal and state income taxes for residents of the issuing state. This maximizes the tax advantage.
7. Can the tax-equivalent yield change over time?
Yes. If your income changes, moving you to a different tax bracket, or if Congress changes the tax laws, the calculation will change. It’s a dynamic, not static, figure.
8. Where can I find information on bonds on Fidelity?
Fidelity offers a wide range of tools for bond investors, including a bond ladder tool and screeners for new bond issues. This calculator is a perfect companion to those resources.