ShmoopTube

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Finance a la shmoop... what is after-tax yield, well we'll presume you [Yield definition on 100 dollar bill]

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know what standard yield is yeah okay so you have a stock trading for a

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convenient exactly 20 bucks a share it pays a quarter a share four times a year

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is a dividend or a dollar a year total in dividends its dividend yield is one

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over twenty or five percent right you buy share for 20 bucks you get a dollar a

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year back but you the investor pay tax on that buck a share of sweet hot

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dividend love if you're a 35 percent bracketed taxpayer that is you pay 35 [35% taypay circled]

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percent tax on the last dollar of your income well then you only keep 65 cents

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on each dollar of dividend income that you receive and yes we note that there

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is both federal and state and you know sometimes other taxes that go in here [List of taxes on sticky note]

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like the Obamacare flavors or other county taxes but in total we're just

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saying let's make up a story here that if you pay 35 percent tax on that buck

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then your real after-tax yield is a lot less than the 5 percent the company

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distributes to you, you calculate your after-tax yield by replacing that

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"gross" dividend of a buck with a 65 cents of dividend that you keep [After-tax yield calculation]

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after-tax in the numerator like that and then that 20 bucks you paid per share of

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gently-used pacemakers dot-com stays in the denominator down there it looks like

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this 65 cents divided by 20 bucks and that's 3.25 percent that

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is 3.25 percent is your after-tax yield so that's as it applies [Man discussing after-tax yield to stock]

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to stocks what about as it applies to bonds well in a way this calculation

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matters a lot more because there's an entire industry in muni-bonds which pay

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lower total rates of interest but which are generally insulated from paying [Person holding a muni-bond]

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taxes so in a way muni bonds compete against fully taxable corporate bonds

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for your bond investing dollar well tax rates for qualified dividends

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meaning they're qualified for the various deductions from equity

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investments are usually meaningfully lower than ordinary income rates so

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let's look at the individual paying 35 percent marginal tax on long [Magnifying glass focuses on womans face]

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term investment gains well they're likely paying something close to 50% tax

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on ordinary income so we have a tale of two bonds foam depot corporation whose

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bonds pay 7% and we're in the muni-city muni bonds which pay 4% which is better

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the two bonds are of identical credit risk and if you're Joe hard-worker high [Hoe hammering a roof]

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tax payer and supporter of government pork then which of these two bonds gives

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you a better after-tax yield well if you pay 50 percent ordinary income tax then

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you're 7% on that corporate is half or 3.5% after-tax that's the after-tax

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yield got it and your muni bond carries no tax liability to you so the 4%

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gross is the four percent net as well answer well go with the muni bond

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and you two will be you know in the muni [Man discussing muni-bond after-tax yield and hat lands on his head]

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