Tonya, who lives in California, inherited a $100,000 State of California bond in
ID: 2328622 • Letter: T
Question
Tonya, who lives in California, inherited a $100,000 State of California bond in 2018. Her marginal Federal tax rate is 35%, and her marginal state tax rate is 5%. The California bond pays 3.3% interest, which is not subject to California income tax. She can purchase a corporate bond of comparable risk that will yield 5.2% or a U.S. government bond that pays 4.6% interest. Hint: Don't forget to calculate any potential federal tax savings from a deduction from CA state taxes. What is the after-tax income form each bond?
Explanation / Answer
What is the after-tax income form each bond?
Government Bond: As the per the US Government Bond is free from of any income /interest Tax so the yield on the government bond is 4.6%.
Corporate Bond:The bond with comparable risk paying interest of 5.2% is subject to income/interest tax at the rate of federal marginal tax rate of 35%.
So the after tax yield is 5.2%*(1-.35)=3.38%.
However the present investment in the California Bond is providing yield of 3.3% which is free from any income/interest tax.