Tax-Equivalent Yield Calculator

Tax-equivalent yield (TEY) is a powerful concept that helps investors compare tax-free municipal bonds with taxable bonds on an apples-to-apples basis. Because muni bonds are often exempt from federal (and sometimes state) income taxes, their nominal yields can be deceiving—a lower-yielding muni might actually be a better deal after taxes.

The TEY tells you what yield a taxable bond would need to offer to match the after-tax return of a tax-free municipal bond. For investors in higher tax brackets, this calculation often reveals that munis are more attractive than they initially appear.

For example, if a municipal bond yields 3% and you're in the 32% federal tax bracket:

This means a taxable bond would need to yield at least 4.41% to match the after-tax return of the 3% municipal bond.

This calculator offers three modes to help you analyze bond investments:

Basic Mode

1. Enter your federal marginal tax rate
2. Enter your state marginal tax rate (if applicable)
3. Enter the municipal bond yield you're considering
4. Optionally enter a taxable bond yield for comparison
5. Select whether the muni is federal-only or federal+state tax-free
6. See the tax-equivalent yield and comparison

Side-by-Side Mode

1. Enter both a taxable and municipal bond yield
2. Compare their after-tax returns directly
3. See which bond is better for your tax situation
4. Calculate the break-even tax rate

Scenario Comparison Mode

1. Create multiple scenarios with different tax rates
2. Compare how the same muni performs at different tax brackets
3. Useful for tax planning or household decision-making

Municipal bonds ("munis") are debt securities issued by state and local governments, as well as government agencies, to fund public projects like schools, roads, hospitals, and infrastructure.

Types of Municipal Bonds

• General Obligation (GO) Bonds: Backed by the full taxing power of the issuing government
• Revenue Bonds: Backed by specific revenue sources (tolls, utility fees, etc.)
• Private Activity Bonds: Issued for private purposes but with public benefit; may be subject to AMT

Tax Advantages

The key advantage of municipal bonds is their tax-exempt status:

• Federal tax exemption: Interest from most munis is exempt from federal income tax
• State tax exemption: In-state munis are often exempt from state taxes too
• NIIT exemption: Muni interest is generally not subject to the 3.8% Net Investment Income Tax

In-State vs Out-of-State Munis

If you buy a municipal bond issued by your home state (or a municipality within it), the interest is typically double tax-free—exempt from both federal and state taxes. Out-of-state munis are usually exempt from federal tax only, and you'll owe state tax on the interest.

This is why the tax-equivalent yield for in-state munis is often higher than for out-of-state munis, especially in high-tax states.

The basic TEY formula is straightforward, but the effective tax rate calculation can vary:

Basic Formula (Federal Only)

Combined Federal + State

When state taxes also apply to taxable bonds, the effective tax rate is higher:

Note: State taxes are calculated after federal because state tax paid is sometimes deductible from federal income (SALT deduction), though this is now limited.

Including NIIT

High earners subject to the 3.8% Net Investment Income Tax add this to their effective rate for taxable bonds (but not munis):

Break-Even Tax Rate

The break-even rate tells you the tax rate at which you'd be indifferent between the two bonds:

Municipal bonds are most attractive for certain investors and situations:

Best Candidates for Munis

• High tax bracket investors: The 32%, 35%, and 37% federal brackets benefit most
• High-tax state residents: States like California, New York, and New Jersey add significant state tax savings
• NIIT-subject investors: Those with MAGI over $200K (single) / $250K (MFJ) save the extra 3.8%
• Income-focused retirees: Tax-free income can help manage AGI and avoid Social Security taxation

When Taxable Bonds May Be Better

• Low tax brackets: If you're in the 10%, 12%, or 22% bracket, the tax savings may not outweigh the yield difference
• Tax-advantaged accounts: In IRAs and 401(k)s, there's no current tax, so munis lose their advantage
• No-income-tax states: Residents of states with no income tax (FL, TX, WA, etc.) get less benefit from state exemption
• Very wide yield spreads: If taxable bonds yield much more than munis, the TEY might not overcome the gap

Rule of Thumb

If your combined federal and state marginal tax rate exceeds 25-30%, municipal bonds are often worth serious consideration. Use this calculator to compare specific bonds rather than relying on rules of thumb.

Avoid these frequent errors when evaluating municipal bonds:

❌ Comparing Nominal Yields

Never compare a 3% muni directly to a 4% corporate bond—the muni's tax-free status may make it the better deal. Always calculate the tax-equivalent yield.

❌ Using the Wrong Tax Rate

Use your marginal tax rate (the rate on your last dollar of income), not your effective/average rate. Bond interest is additional income taxed at your highest bracket.

❌ Forgetting State Taxes

In high-tax states, the state exemption for in-state munis can add significant value. An out-of-state muni loses this benefit and may be less attractive than you think.

❌ Holding Munis in Tax-Advantaged Accounts

Putting munis in an IRA or 401(k) wastes their tax-free status. Hold them in taxable accounts and put taxable bonds in retirement accounts.

❌ Ignoring Credit Risk

Not all munis are equal. Some have higher credit risk than others. A higher-yielding muni might reflect credit concerns, not just tax-free value.

❌ Overlooking AMT

Some private activity municipal bonds are subject to Alternative Minimum Tax (AMT). If you're subject to AMT, these bonds may not be fully tax-free for you.

Tax-equivalent yield is important, but it's not the only factor in bond selection:

Credit Quality

Municipal bonds range from AAA (safest) to below investment grade. Higher yields often mean higher risk. Consider credit ratings from Moody's, S&P, and Fitch when comparing bonds.

Duration and Interest Rate Risk

Longer-duration bonds are more sensitive to interest rate changes. Compare bonds with similar durations, or consider how rate changes might affect your portfolio.

Liquidity

Corporate bonds are generally more liquid than municipal bonds. If you might need to sell before maturity, consider how easily you can find buyers.

Call Provisions

Many municipal bonds can be "called" (redeemed early) by the issuer. If rates fall, your bond might be called, forcing you to reinvest at lower yields.

Diversification

Don't over-concentrate in one issuer, state, or sector. Municipal bond funds offer built-in diversification, though they come with management fees.