Assume that Larry's marginal tax rate is 25%. If corporate bonds pay 10% interest, what interest rate would a municipal bond have to offer for Larry to be indifferent between the two bonds?

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Since Larry's marginal tax rate is 25%, he would pay 25% of his interest income in taxes if he invested in corporate bonds. Therefore, the after-tax return on corporate bonds would be 7.5% (10% - 25% of 10%). For Larry to be indifferent between the two bonds, the municipal bond would need to offer an after-tax return of 7.5%. Since municipal bond interest is typically tax-free at the federal level, the pre-tax yield on the municipal bond would also be 7.5%. Therefore, the interest rate on the municipal bond would need to be 7.5%.

Assume That Larry's Marginal Tax Rate Is 25