What is tax-equivalent yield?
Tax-equivalent yield (TEY) is the pre-tax yield a fully taxable bond would have to pay to leave you with the same after-tax income as a tax-free municipal bond. Because muni interest usually escapes federal income tax — and often your state's tax too — its real value is higher than the stated coupon suggests.
TEY lets you compare apples to apples: line a muni's tax-equivalent yield up against the actual yield of a comparable taxable bond, and whichever is higher wins after taxes.
The tax-equivalent yield formula
Tax-equivalent yield = Tax-free yield ÷ (1 − combined marginal tax rate)
Your combined marginal rate is your federal bracket plus your state income tax rate (if the bond is exempt in your state), plus the 3.8% NIIT if it applies to you. A worked example for a 4% muni in the 32% federal bracket:
- TEY = 4% ÷ (1 − 0.32) = 5.88%
- So you'd need a taxable bond yielding 5.88% to match this 4% tax-free muni.
Tax-equivalent yield by bracket (4% muni)
How much a 4% tax-free muni is worth at each 2026 federal bracket (federal only):
| Federal bracket | Tax-equivalent yield |
|---|---|
| 10% | 4.44% |
| 12% | 4.55% |
| 22% | 5.13% |
| 24% | 5.26% |
| 32% | 5.88% |
| 35% | 6.15% |
| 37% | 6.35% |
The higher your bracket, the more a tax-free bond is worth — which is why munis favor high earners.
When municipal bonds win
- High tax bracket. In the 32–37% brackets, a muni's tax-equivalent yield is often well above comparable taxable bonds.
- In-state bonds. Buying a bond from your own state typically adds state-tax exemption, raising the effective TEY further.
- Taxable accounts only. The tax break is wasted inside an IRA or 401(k) — hold taxable bonds there and munis in your brokerage account.
- Subject to NIIT. Muni interest is generally exempt from the 3.8% NIIT, an extra edge for high-income investors.
Limitations
- Yield isn't everything. Compare bonds of similar credit quality and maturity — a higher yield can mean higher risk.
- Marginal vs. effective. TEY uses your top (marginal) rate; your overall tax picture may differ.
- AMT and other rules. Some "private activity" munis are taxable under the Alternative Minimum Tax.
- Not investment advice. This is an educational estimate — consult a financial or tax professional.
FAQs
What is tax-equivalent yield?
Tax-equivalent yield (TEY) is the pre-tax yield a taxable bond would need to pay to match the after-tax return of a tax-free municipal bond. Because muni-bond interest is usually exempt from federal (and sometimes state) income tax, a 4% muni can beat a 5% taxable bond once taxes are taken out. TEY puts both on equal footing so you can compare them fairly.
How do you calculate tax-equivalent yield?
The formula is: TEY = tax-free yield ÷ (1 − your marginal tax rate). For example, a 4% tax-free muni for an investor in the 32% federal bracket has a TEY of 4% ÷ (1 − 0.32) = 5.88%. That means you'd need a taxable bond yielding 5.88% to net the same after-tax income. Add your state income tax rate (and the 3.8% NIIT if it applies) for a more precise combined rate.
Why does my tax bracket matter so much?
The higher your tax bracket, the more valuable tax-free income becomes, because you're avoiding more tax. A 4% muni is worth a 5.0% taxable yield in the 20% bracket but a 6.35% taxable yield in the 37% bracket. That's why municipal bonds are most attractive to high-income investors and far less compelling for those in low brackets.
Should I include state tax and NIIT?
If you buy a muni bond issued by your own state, the interest is typically exempt from your state income tax too, so include your state rate for a higher (more accurate) tax-equivalent yield. The 3.8% Net Investment Income Tax (NIIT) applies to investors with modified AGI above $200,000 (single) or $250,000 (married) — municipal interest is generally exempt from NIIT, so adding it raises the muni's effective advantage.
Are municipal bonds always the better choice?
No. Compare the muni's tax-equivalent yield to the actual yield of a comparable taxable bond (similar credit quality and maturity). If a taxable bond yields more than the muni's TEY, the taxable bond wins after taxes. Munis also carry credit and interest-rate risk, and in a tax-advantaged account like an IRA or 401(k) their tax exemption is wasted — hold taxable bonds there instead.
What is the reverse — taxable-equivalent of a taxable bond?
To compare in the other direction, multiply a taxable bond's yield by (1 − your marginal rate) to get its after-tax yield, then compare that to the muni's stated (tax-free) yield. A 5% taxable bond in the 32% bracket nets 5% × (1 − 0.32) = 3.4% after tax, so a 4% tax-free muni would beat it.
Does this work for Treasury bonds or CDs?
Treasury interest is exempt from state and local tax but still federally taxable, so for Treasuries you'd apply only your federal rate when comparing. Bank CDs and corporate bonds are fully taxable at federal and state levels. This calculator is built for comparing a tax-free muni against a fully taxable alternative; for partial exemptions, adjust the rate you enter accordingly.