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5-Year @ 5.66% Tax-Equivalent Yield

RichardW
  |     |   821 posts since 2019

Today the 5-year Treasury Note hit a yield of 4.92% (see: https://home.treasury.gov/resource-center/data-chart-center/interest-rates/TextView?type=daily_treas... ). Depending on your taxable income and state of residence, if you are currently thinking about purchasing a 5-year CD, you may wish to consider a 5-year Treasury Note instead. For example, according to the Taxable-Equivalent Yield Calculator available at Fidelity, if your principle state of residence is California, and your estimated taxable income is $67,000 and your federal tax filing status is single, the 5-year Treasury Note at 4.92% has a tax-equivalent yield of a 5-year CD at 5.66%. Changing the estimated taxable income to $134,000 and the federal tax filing status to married filing jointly produces the same tax-equivalent yield of a 5.66%.

The results listed above neglect local income tax and assume that the Treasury Note and the comparable CD are held in a taxable deposit account. The Taxable-Equivalent Yield Calculator available at Fidelity (https://digital.fidelity.com/prgw/digital/taxyieldcalc/) neglects NIIT (Net Investment Interest Tax), neglects AMT (Alternative Minimum Tax), and expresses yield as the effective annual rate of return in percent.

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Steve58
  |     |   460 posts since 2018
Thanks, very interesting. Reminds me why I would never move to California.

Question, how are CDs and Corporate bonds taxed differently. Never owned a corporate bond, and it comes in slightly better (lower % equivalent) than a CD.

Steve
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Capper
  |     |   50 posts since 2018
I picked up one on the secondary market yesterday. I am pretty happy with the rate because I live in a very high tax state. Of course I see today that the rate is even higher, its almost at 5% now. The 10 years are also close to 5% now as well. If the 10 year goes above 5, I might think about getting some of them as well.
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RichardW
  |     |   821 posts since 2019
@Steve58
Typically, interest earned on corporate bonds and CDs are both subject to federal, state, and local income taxes when held in a traditional taxable account. Some states do not tax interest income earned on corporate bonds and CDs.

The Fidelity Taxable-Equivalent Yield Calculator assumes corporate bond yields do not reflect compounding of interest. The Fidelity Taxable-Equivalent Yield Calculator assumes CD yields reflect compounding of interest, and assumes the CD yield is calculated as ((((Corporate Bond Yield/2)+1)^2)–1) [where: "^2" indicates the mathematical operation of raising to the 2nd power]. Whether their expression ((((Corporate Bond Yield/2)+1)^2)–1) is appropriate is debatable. Their use of this expression is most likely a compromise since it reflects semi-annual compounding, which is a compounding frequency between no compounding and daily compounding.

You can learn more information about the assumptions incorporated in the Fidelity Taxable-Equivalent Yield Calculator by viewing the calculator webpage (https://digital.fidelity.com/prgw/digital/taxyieldcalc/), locating the region titled “About Bonds and Taxes” which is positioned on the right side of the calculator webpage and clicking the link “See our Assumptions” found at the bottom of that region. Additional background information regarding the Fidelity calculator is available by selecting “Learn more” which is located at the top of the calculator webpage.
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