Financial Statement Analysis
- Ratio Analysis of Financial Statements (Formula, Types, Excel)
- Ratio Analysis Advantages
- Ratio Analysis
- Liquidity Ratios
- Cash Ratio
- Quick Ratio
- Quick Ratio Formula
- Current Ratio
- Current Ratio Formula
- Acid Test Ratio Formula
- Defensive Interval Ratio
- Working Capital Ratio
- Working Capital Formula
- Net Working Capital Formula
- Current Ratio vs Quick Ratio
- Bid Ask Spread
- Liquidity vs Solvency
- Liquidity Risk
- Altman Z Score
- Turnover Ratios
- Profitability Ratios
- Profit Margin
- Gross Profit Margin Formula
- Operating Profit Margin Formula
- Net Profit Margin Formula
- EBIDTA Margin
- Earnings Per Share
- Basic EPS
- Diluted EPS
- Basic EPS vs Diluted EPS
- Return on Equity (ROE)
- Return on Capital Employed (ROCE)
- Return on Invested Capital (ROIC)
- ROIC vs ROCE
- Return on Total Assets (ROA)
- Return on Average Capital Employed
- Capital employed Employed
- Return on Average Assets (ROAA)
- Return on Average Equity (ROAE)
- Return on Assets Formula
- Return on Equity Formula
- DuPont Formula
- Net Interest Margin Formula
- Earnings Per Share Formula
- Diluted EPS Formula
- Contribution Margin Formula
- Revenue Per Employee Ratio
- Operating Leverage
- EBIT vs EBITDA
- Capital Gains Yield
- Tax Equivalent Yield
- LTM Revenue
- Operating Expense Ratio Formula
- Overhead Ratio Formula
- Capitalization Rate
- Comparative Income Statement
- Capacity Utilization Rate Formula
- Total Expense Ratio Formula
- Efficiency Ratios
- Dividend Ratios
- Debt Ratios
- Debt to Equity Ratio
- Debt Coverage Ratio
- Debt Ratio
- Debt to Income Ratio Formula (DTI)
- Capital Gearing Ratio
- Capitalization Ratio
- Interest Coverage Ratio
- Times Interest Earned Ratio
- Debt Service Coverage Ratio (DSCR)
- Financial Leverage Ratio
- Net Debt Formula
- Leverage Ratios
- Operating Leverage vs Financial Leverage
- Current Yield
- Debt Yield Ratio
Tax Equivalent Yield Formula
The first question may be why should you use this formula? And the answer is this formula will help you compare the yield between a tax-free investment and a taxed investment.
Here’s the tax equivalent yield formula –
Example of Tax Equivalent Yield Formula
Let’s take another example to Tax Equivalent Yield Calculation.
Mrs. Olivia is new in the investment world. She wants to find out whether she should go for taxed investments or tax-free investments. She finds out that the taxed investments pay out the yield of 12% on an average. On the other hand, tax-free investments pay 8% on an average. The prevalent tax rate is 35%. You need to guide Mrs. Olivia by choosing which investment would be more beneficial for her.
By using the formula, we get –
- Tax Equivalent Yield = Tax Free Yield / (1 – Tax Rate)
- Or, Tax Yield = 8% / (1 – 35%)
- Or, Tax Yield = 0.08 / (1 – 0.35)
- Or, Tax Yield = 0.08 / 0.65 = 0.1230 = 12.3%.
From the above Tax Equivalent Yield calculation, we are clear that Mrs. Olivia certainly needs to invest in tax-free investments and not taxed investments.
Explanation of Tax Equivalent Yield Formula
As you can see the formula compares between the tax-free yield and the taxed yield. In the formula, there are thus two components.
- The first component is the tax-free yield. To find out the tax-free yield, all you need to do is to look at the yield of municipal bonds. These bonds are generally issued by the government and you don’t need to pay any tax for the return you earn from your investment.
- The second component of the formula is (1 – Tax rate). (1 – Tax rate) would help you find out the yield if it is being taxed. The reason we use this in the denominator is to find out how beneficial it is to invest in the taxed investments.
By using the formula, you will understand actually how much yield you would earn if you need to pay taxes on your tax-free investments. That will keep the yield at a similar level (both investments are taxed) and you would be able to find out whether the taxed investment is a good deal or not.
Use of Tax Yield Equivalent Formula
Investors should use this formula to find out whether it is prudent to pay higher taxes for investing in the taxed investments.
Let’s understand this by using a simple example.
Let’s say that Mr. Ramesh has decided to look at both taxed investments and tax-free investments. The idea is to reduce the tax payment as much as he can.
He finds out that the taxed investment offers a 9% yield. And a tax-free investment offers him 6% yield. And let’s say that the tax rate is 40%.
To find out, he uses the tax yield.
By using the formula, he gets –
- Tax Yield = Tax Free Yield / (1 – Tax Rate)
- Or, Tax Yield = 6% / (1 – 40%)
- Or, Tax Yield = 0.06 / (1 – 0.40)
- Or, Tax Yield = 0.06 / 0.60 = 0.1 = 10%.
So, Mr. Ramesh finds out that taxed investment isn’t a good deal and he should go for tax-free investments.
Tax Equivalent Yield Calculator
You can use the following Tax Equivalent Yield Calculator.
|Tax Equivalent Yield Formula =|| |
Tax Equivalent Yield Formula in Excel (with excel template)
Let us now do the same example above in Excel.
This is very simple. You need to provide the two inputs of Tax Yield and Tax Rate.
You can easily find out the tax equivalent in the template provided.
You can download this tax equivalent yield template here – Tax Equivalent Yield Excel Template
This has been a guide to Tax Equivalent Yield formula, its uses along with practical examples. Here we also provide you with Tax Yield Equivalent Calculator with downloadable excel template. Here are the other suggested articles –