Holding liquidity and default risk constant, an investor earning 6% from a tax-exempt bond who is in a 25% tax bracket would be indifferent between that bond and a taxable bond with a(n):
A) 8% yield.
B) 4.5% yield.
C) 6.25% yield.
D) 7.5% yield.

Question

Quizplus · Accepted Answer

To find the equivalent taxable yield that would make the investor indifferent, you use the formula: Tax-Exempt Yield / (1 - Tax Rate). Plugging in the numbers: 6% / (1 - 0.25) = 6% / 0.75 = 8%.

Holding Liquidity and Default Risk Constant, an Investor Earning 6