Problem:
Mark is in the 40% tax bracket. He is thinking of investing in taxable bonds that carry a 12% interest rate.
Required:
Question 1: What is his after-tax yield on the bonds?
Question 2: If tax-exempt bonds with a 6% interest rate were also issued at the same time, which bonds would Mark be better off buying?
Question 3: What would the interest rate need to be on the tax-exempt bonds so that the return on both the taxable bonds and the tax-exempt bonds is the same.
Note: Provide support for your rationale.