Question

A taxable bond has a coupon rate of 5.89 percent and a ytm of 5.57 percent. If an investor has a marginal tax rate of 35 percent, what is the equivalent after-tax yield?

Answer 1

The equivalent after-tax yield of a bond with a coupon rate of 5.89 percent for an investor with a 35 percent marginal tax rate is 3.83 percent, calculated by multiplying the coupon rate by (1 minus the tax rate).

Step-by-step explanation:

To determine the equivalent after-tax yield of a bond with a coupon rate of 5.89 percent and a yield to maturity (YTM) of 5.57 percent for an investor in the 35 percent marginal tax bracket, we use the after-tax yield formula: After-Tax Yield = Coupon Rate × (1 - Marginal Tax Rate). Substituting the given figures, we have After-Tax Yield = 5.89% × (1 - 0.35), which simplifies to After-Tax Yield = 5.89% × 0.65. Calculating this gives us an After-Tax Yield of 3.83 percent.

It's vital to note that this calculation ignores potential capital gains or losses and only considers the yield from coupon payments. The final yield, depending on market conditions, could differ as bond prices fluctuate with interest rate changes.