Tax-equivalent bond yield calculator
I found a cool tax-equivalent bond yield calculator.
I was looking at the performance summary of T. Rowe Price’s various mutual funds that they list at the back of this quarterly newsletter they send out. For my state, they have a tax-free bond fund that returned 5.1% last year and I was wondering what the taxable equivalent is. I went looking and found a couple, but this is the one I especially liked.
To run the calculator, you need to know your net taxable income. Plugging in my information, I found that a tax-free 5% yield is the equivalent of a 7% taxable return. Now I haven’t read the prospectus of the fund, but a 7% equivalent yield for a bond fund sounds pretty nice.
May 10th, 2007 at 12:22 pm
That calculator is too simple. It doesn’t ask if you itemize deductions. It doesn’t ask if you are subject to AMT. Both factors will affect your tax equivalent yield.
May 10th, 2007 at 12:56 pm
I liked the fact that it was simple.
I’m going to show my ignorance and ask “what difference does it make whether you itemize?” When you put in your taxable income, that’s after deductions, right?
May 10th, 2007 at 1:58 pm
Let’s say you have $50,000 taxable income and you are considering an investment that will bring in additional $70 in taxable income (7% yield) or another investment that will bring in $50 tax free income (5% yield). Whether you are able to deduct the state income tax on the $70 taxable income makes a difference in the calculation. Also, there is only one input field for your taxable income in that calculator. If you itemize your deductions for state income tax, your taxable income for federal income tax and that for state income tax will be different because the state income tax is deductible at the federal level but it’s not deductible at the state level. If you use the federal taxable income when you look up for state income tax bracket, the result can be wrong.
May 10th, 2007 at 2:20 pm
May 10th, 2007 at 3:30 pm
In “About the Chart,” it says, “Your total effective rate, calculated above, takes into account the fact that any state income tax paid will reduce the amount of federal tax, because the state tax payment is deductible for federal tax purposes.”
Doesn’t that account for what you’re saying?
In any case, it’s a basic calculator with nice round numbers. That’s why I liked it - it was simple. If I’m trying to compare the yields, I don’t want to redo my taxes to do it. I personally just want the gist of it.
Thanks for the explanation, though. You obviously take this pretty seriously and I’m here to learn. Can you suggest a better calculator?
May 10th, 2007 at 4:32 pm
Well, it assumes state income tax deduction. Many people don’t itemize. For them, the calculation will be off. That’s why I said it should *ask* whether you itemize or not. If you just want an estimate, and you don’t care whether the tax equivalent rate for 5% tax free is 6.5%, 7.0% or 7.5%, as long as it’s somewhere around 7%, that calculator may be OK. It’s simple but wrong for many people. I’ve been through many of these calculators. None I’ve seen provides accurate result for all scenarios — they all make assumptions, some of which don’t even state what the assumptions are. I finally had to make my own. I don’t want to push for it. If you are really interested, I’m sure you can find it on my blog. For just an estimate, that simple calculator is fine as long as you understand its limitations. Quick and dirty is still useful.