The Nash Corp. is considering four investments. Which provides the highest after-tax return for Nash Corp. if it is in the 40% federal tax bracket? Assume the tax rate on dividends is 15%.
A) Treasury bonds at 4%
B) Corporate bonds at 7.5%
C) Municipal bonds at 7.25%
D) Preferred stock at 7.5%

Question

Quizplus · Accepted Answer

Municipal bonds are exempt from federal taxes, so the return on investment for Nash Corp. in the 40% tax bracket would be 7.25%*(1-0.4)= 4.35%. This is higher than the after-tax return for Treasury bonds (2.4%), corporate bonds (4.5%), and preferred stock (4.05%).