Since I introduced my tax equivalent yield calculator in my post Which Vanguard Money Market Fund?, I’ve had very good feedback from people who used it. People told me it’s the only calculator on the web that takes into consideration for Treasury fund, the standard or itemized deductions, and AMT.
I added a new section for AMT-free tax exempt money market funds. Fidelity is the only place I know which offers this kind of funds. These funds do not invest in private activity bonds which are subject to the AMT. The AMT-free funds yield slightly lower than funds which include private activity bonds. But if you are subject to AMT, you may fare better in an AMT-free fund after you take into consideration the AMT.
For example, at the time I’m writing this post, the yield on Fidelity California AMT Tax-Free Money Market Fund (FSPXX) is 3.57%. The yield on Vanguard California Tax-Exempt Money Market Fund (VCTXX) is 3.73% but the Vanguard fund has 17.8% of its holdings subject to AMT. For a California resident in 35% AMT bracket and 9.3% California state income tax bracket, the Fidelity AMT free fund is better after tax. The Fidelity AMT free fund requires $25,000 minimum initial investment, although you can drop down to $10,000 after the initial investment.
|Quoted Yield||% in Private Activity Bonds||After Tax Yield||Tax Equivalent Yield|
|Fidelity CA AMT Free Money Market Fund (FSPXX)||3.57%||0%||3.57%||6.41%|
|Vanguard CA Tax-Exempt Money Market Fund (VCTXX)||3.73%||17.8%||3.50%||6.28%|
The calculator is not limited to only Vanguard or Fidelity. You can use it for funds from any other company. Just enter the yield numbers for the funds you are considering. Following suggestions from Ron Lieber and Ari Weinberg at FiLife, I also changed wording on a question in the calculator to make it clearer. You can get to the updated calculator from the original post or access it directly from the hosting site.
Although the calculator was made for money market funds, it works for regular bond funds too. Well, money market funds are bond funds, the very short-term kind. Bond funds also have different tax characteristics (if held in a taxable account, of course). For example here’s a rundown on a few bond funds for the same California resident in 35% AMT bracket and 9.3% California state income tax bracket:
|Quoted Yield||After Tax Yield||Tax Equivalent Yield|
|Vanguard Intermediate-Term Bond Index Fund (VBIIX)||5.03%||2.80%||5.03%|
|Vanguard Intermediate-Term Treasury Fund (VFITX)||4.19%||2.72%||4.89%|
|Vanguard California Intermediate-Term Tax-Exempt Fund (VCAIX)||3.88%||3.88%||6.96%|
For this fictitious California resident, the fully taxable bond fund has the highest quoted yield but it has lower yield after tax. The California state tax exempt fund has the lowest quoted yield but it has the highest yield after tax.
Of course when you choose a bond fund, you will have to consider other factors including credit quality and duration. These topics are out of the scope of this post.
Ideally you want to place your bond funds in a tax deferred account so you don’t have to worry about the difference in tax treatment. But if you are using a bond fund for an intermediate term goal, or if you don’t have enough room in your tax deferred accounts, calculating the after-tax yield or the tax equivalent yield can help you make the decision.
Say No To Management Fees
If an advisor is charging you a percentage of your assets, you are paying 5-10x too much. Learn how to find an independent advisor, pay for advice, and only the advice.