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Comparing bond fund with CD
Old 01-19-2019, 03:58 PM   #1
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Comparing bond fund with CD

I have holdings in VMLUX (limited term tax exempt) which currently has a yield of 1.89% as per Morningstar.

I wanted to compare it to a CD which has a yield of 2.25%

I am in the 22% marginal tax rate bracket.

I live in California which is a high state income tax state 9.3% (the bond fund is only Federally tax exempt)

This is not money that I need to withdraw anytime soon so I could keep it in the bond fund for several years

Would I be better off in the long run putting the money I have in a CD?

Any insight would be appreciated
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Old 01-19-2019, 04:12 PM   #2
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Are you able to deduct state income tax for federal tax purposes?
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Old 01-19-2019, 04:16 PM   #3
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Are you able to deduct state income tax for federal tax purposes?

Yes, I think so
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Old 01-19-2019, 05:02 PM   #4
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So the after tax yield on the tax free fund will be [1.89%*(1-9.3%)]*(1-0%) = 1.71% and the after tax yield on the taxable CD will be [2.25%*(1-9.3%)]*(1-22%) = 1.59% assuming that state income taxes are deductible.

If not, then 1.71% and 1.55%.
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Old 01-19-2019, 05:18 PM   #5
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So the after tax yield on the tax free fund will be [1.89%*(1-9.3%)]*(1-0%) = 1.71% and the after tax yield on the taxable CD will be [2.25%*(1-9.3%)]*(1-22%) = 1.59% assuming that state income taxes are deductible.

If not, then 1.71% and 1.55%.
thanks so much for the answer!
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Old 01-19-2019, 05:32 PM   #6
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If you own a home in California and are in the 9.3% bracket, you will likely max out your State tax deduction at the $10k limit. Thus, the additional tax would not be deductible. This assumes that you would even itemize your deductions under the new tax code which increased the standard deduction. It’s unlikely, though not impossible, that someone in the 22% bracket would itemize.
Welcome to the world of tax reform which did not benefit residents of blue high tax states like CA, NY, NJ, CT, MA
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Old 01-19-2019, 06:38 PM   #7
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I'm also in California and have a similar situation. I think the answer depends on the amount of Schedule A deductions. The Std deduction went up in 2018 to $12k for single and $24k for married filing jointly. So unless you exceed the new limits you are essentially not getting a deduction for State taxes. Also, since 6 month CDs are only paying around 2.4% and 6 month zero coupon US Treasuries are yielding 2.5% (and are State Tax exempt) it was a no brainer to go with the 6 month zero coupons at 2.5%.
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Old 01-19-2019, 06:42 PM   #8
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If you own a home in California and are in the 9.3% bracket, you will likely max out your State tax deduction at the $10k limit. Thus, the additional tax would not be deductible. This assumes that you would even itemize your deductions under the new tax code which increased the standard deduction. It’s unlikely, though not impossible, that someone in the 22% bracket would itemize.
Welcome to the world of tax reform which did not benefit residents of blue high tax states like CA, NY, NJ, CT, MA
But as you can see above... whether or not state tax is deductible or not only makes a 4 bps difference in the after-tax return.... 1.59% vs 1.55%.

Or put another way... if you have $100 income and 9.6% state income taxes are deductible then your state tax is $9.60 and your federal tax is $19.80 for net after-tax income of $70.50... OTOH, if state income tax isn't deductible you have $9.60 of state income tax and $22.00 of federal income tax for net after-tax income of $68.40... a $2.10/2.1% difference...9.6% * 22%.
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Old 01-19-2019, 07:03 PM   #9
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There are so many better options for tax free, longer term fixed income. Keep in mind the average inflation rate, over time is 3.22%
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Old 01-20-2019, 12:09 PM   #10
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There are so many better options for tax free, longer term fixed income. Keep in mind the average inflation rate, over time is 3.22%
Can you give me a few examples?
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Old 01-20-2019, 12:20 PM   #11
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Can you give me a few examples?
I am too lazy to check but IIRC the 30 year inflation rate is about 2.4%. The 40 year rate is 4.1% because that extra 10 years picks up the late-70s, early-80s excitement.



This is why we hold TIPS. I don't think inflation history is very helpful in retirement planning. High inflation might not be probable, but we think it is our biggest risk.
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Old 01-20-2019, 01:22 PM   #12
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Can you give me a few examples?
It depends on what you are trying to achieve: income, portfolio ballast, safety, tax efficiency, liquidity. I can’t tell what is right for you, but there are a bunch of things I would explore.
Bond ladders muni or taxable.
CA specific muni funds or ETF’s
Individual muni’s
I personally use a muni bond ladder that throws off a bunch of cash flow, liquidity and a reasonable amount of safety yet yields in the mid 4% range, tax free or close to tax free, not sure about AMT under the new rules.
I also have a corporate bond ladder in my deferred accounts that yields a bit more.
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