To calculate the taxable equivalent yield on a municipal bond, divide the bond’s yield by one minus your marginal tax rate expressed as a decimal. That single step tells you what a taxable bond or CD would have to pay to match the muni’s after-tax return. The work is in choosing the right yield figure and the right tax rate, because state taxes, the Net Investment Income Tax, and a few less obvious rules can move the answer by a full percentage point or more.
The Formula and a Worked Example
The equation is:
Taxable Equivalent Yield = Tax-Free Yield ÷ (1 − Marginal Tax Rate)
Convert your marginal rate from a percentage to a decimal first. A 24% rate becomes 0.24. Subtract from 1 to get 0.76. Then divide the muni’s yield by that number.
Say you’re comparing a municipal bond yielding 3.5% against a corporate bond, and your federal marginal rate is 24%. The math: 0.035 ÷ 0.76 = 0.04605, or about 4.61%. A corporate bond has to pay more than 4.61% to beat the muni after tax. If the best corporate option yields 4.3%, the muni wins. If it yields 5%, the corporate wins. That’s all the formula does. It gives you one yardstick.
Which Yield to Use
Use yield to maturity, not the coupon rate. The coupon is the fixed interest rate printed on the bond, but if you bought at a price above or below face value, your actual annual return will not match it. Yield to maturity folds in the purchase price, the coupon payments, and the return of principal at maturity, so it reflects what you’ll really earn.
For bonds you already hold, your brokerage statement typically shows yield to maturity next to the coupon. For new issues, the official statement lists yields at each maturity date, and the Electronic Municipal Market Access system (EMMA) publishes these along with trade prices and credit ratings for outstanding municipal securities.1Municipal Securities Rulemaking Board. About EMMA
Which Tax Rate to Use
Use your marginal rate, meaning the rate that applies to your last dollar of income. Not your effective rate, which averages your lower brackets in and will understate the muni’s advantage. Bond interest stacks on top of your other income, so if you’re near the top of a bracket, that interest gets taxed at the higher rate that applies above the threshold.
To find your bracket for 2026, start with gross income and subtract the standard deduction ($16,100 for single filers, $32,200 for joint filers) or your itemized deductions. The remainder is taxable income. Federal marginal rates for 2026 run from 10% up to 37%, with the 32% bracket beginning at $201,775 for single filers and $403,550 for joint filers.2Internal Revenue Service. IRS Releases Tax Inflation Adjustments for Tax Year 2026, Including Amendments From the One, Big, Beautiful Bill
A single filer with $120,000 in gross income has roughly $103,900 in taxable income after the standard deduction. That puts them in the 22% bracket, so 0.22 goes into the formula.
Adding State and Local Taxes
A municipal bond issued in your home state is usually exempt from state income tax as well as federal, and a handful of cities with local income taxes extend the exemption there too. When a bond is triple-exempt, add your federal, state, and local marginal rates together and use the combined figure in the denominator.
If your federal rate is 24%, your state rate is 6%, and your city rate is 3%, the combined rate is 33%. A 4% triple-exempt muni then has a TEY of 0.04 ÷ (1 − 0.33) = 5.97%. Using the federal rate alone would give you 5.26%, understating the bond’s value by nearly three-quarters of a point.
State marginal rates range from 0% in the states with no income tax up to roughly 13.3% in the highest-tax states, so where you live changes the answer significantly.
Out-of-State Bonds
The state exemption almost always applies only to bonds issued within your state of residence. Buy a muni from another state and you’ll typically owe state income tax on the interest, though it stays federal-tax-free.3Municipal Securities Rulemaking Board. Tax Treatment For an out-of-state muni, use only your federal marginal rate (plus NIIT if it applies) in the denominator. That often makes out-of-state issues less attractive than in-state, even at a slightly higher coupon.
A Note on the SALT Cap
Under the One, Big, Beautiful Bill, the state and local tax deduction cap was raised to about $40,000 for most filers starting in 2025, with small annual increases through 2029. If your state and local taxes already exceed the cap, additional state tax on bond interest doesn’t lower your federal bill, so simply adding federal and state rates together is the correct approach. If your SALT total is below the cap and you itemize, the interaction is more complicated, but for most high-income muni buyers the cap makes straight addition right.
Adding the 3.8% Net Investment Income Tax
High earners owe an extra 3.8% Net Investment Income Tax on investment income when modified adjusted gross income exceeds $200,000 (single) or $250,000 (joint). Corporate bond interest, CD interest, and other taxable fixed income are subject to it. Municipal bond interest is not.4Internal Revenue Service. Topic No. 559, Net Investment Income Tax
That asymmetry means the plain formula understates the muni advantage if you leave the NIIT out. Add 3.8% to your marginal rate before dividing. A taxpayer in the 35% bracket with NIIT exposure uses 38.8%, not 35%. A 4% muni then gives you 0.04 ÷ (1 − 0.388) = 6.54%, compared with 6.15% without the adjustment. Skip this step and taxable bonds will look consistently more competitive than they actually are.
When the Formula Overstates the Muni
The basic calculation assumes muni interest is genuinely tax-free. Several situations break that assumption.
Private Activity Bonds and the AMT
Private activity bonds fund projects like airports, housing, and industrial facilities. Their interest is exempt from regular federal income tax,5Office of the Law Revision Counsel. 26 U.S. Code 103 – Interest on State and Local Bonds but it counts as a tax preference item under the Alternative Minimum Tax.6Office of the Law Revision Counsel. 26 U.S. Code 57 – Items of Tax Preference For 2026 the AMT exemption is $90,100 for single filers and $140,200 for joint filers, with phase-outs beginning at $500,000 and $1,000,000.2Internal Revenue Service. IRS Releases Tax Inflation Adjustments for Tax Year 2026, Including Amendments From the One, Big, Beautiful Bill If AMT applies to you, interest on a private activity bond isn’t really tax-free, and the standard formula overstates the bond’s value. Housing bonds and 501(c)(3) bonds are carved out and don’t trigger the AMT preference.
The Social Security Combined-Income Rule
Retirees drawing Social Security should know that tax-exempt muni interest counts in the combined-income calculation that determines how much of your benefit is taxable.7Social Security Administration. Must I Pay Taxes on Social Security Benefits? Combined income equals adjusted gross income plus tax-exempt interest plus half your Social Security. Cross $25,000 single or $32,000 joint and up to 85% of your benefit becomes taxable. The muni interest stays exempt, but pushing more of your Social Security into taxable territory is a real cost that TEY doesn’t capture.
Bonds Bought at a Market Discount
Buy a muni on the secondary market below face value and the discount portion of your eventual gain is taxed as ordinary income, not at the lower capital gains rate.8Office of the Law Revision Counsel. 26 U.S. Code 1276 – Disposition Gain Representing Accrued Market Discount Treated as Ordinary Income The de minimis threshold is 0.25% per full year to maturity. On a 10-year, $1,000 face bond, any price below $975 means the embedded gain gets ordinary-income treatment at maturity. Yield to maturity reflects the discount arithmetically, but the tax on that piece is not the same as tax-free coupon income.
Capital Gains Are Never Exempt
The federal exemption covers interest, not capital gains. Sell a muni for more than you paid and the gain is fully taxable. TEY compares interest streams, so it fits buy-and-hold investors well; frequent trading complicates the picture in ways the formula won’t show.
A Full Example With Every Layer
A single filer with $220,000 in taxable income lives in a state with a 5% income tax and is looking at an in-state muni yielding 4.25%.
- Federal marginal rate: 32% (income over $201,775)2Internal Revenue Service. IRS Releases Tax Inflation Adjustments for Tax Year 2026, Including Amendments From the One, Big, Beautiful Bill
- NIIT: 3.8% (modified AGI exceeds $200,000)4Internal Revenue Service. Topic No. 559, Net Investment Income Tax
- State rate: 5%
- Combined: 40.8%
TEY = 0.0425 ÷ (1 − 0.408) = 0.0718, about 7.18%. A corporate bond would need to yield more than 7.18% pre-tax to match this muni after tax, and at that level you’re looking at meaningfully more credit risk. For high-income investors in states with real income taxes, a solid muni can be genuinely hard for corporate debt to beat once every tax layer is in the denominator.