Question

a corporate bond pays 7.25% and a municipal bond pays 5.45%. which bond will you buy if your in the following ax bracket : A 20% B 38%

Answer 1

Answer

A corporate bond is taxed and the municipal bond is not so we need to compare the after-tax rate of the corporate bond to municipal bond

After-tax rate =%before tax rate %-before tax rate * tax rate

For bracket A

After-tax rate=7.25-7.25*0.2

=5.8

The rate is higher than the municipal bond so you will prefer corporate bonds at the 20% tax bracket.

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For bracket B

after-tax rate =7.25-7.25*0.38

=4.495%

the rate is lower than the municipal bond so you will prefer municipal bonds.