NISM Certifications · NISM-Series-X-B: Investment Adviser (Level 2) · Comparison of Products Across Categories
Caselet: Ms. Kavita Rao, in the 30% bracket (ignore surcharge and cess), wants a taxable fixed-income option that matches the post-tax return of a tax-free bond yielding 5.6%. What pre-tax yield must the taxable option offer?
The taxable option must yield 8.0% before tax. Dividing the tax-free yield of 5.6% by one minus the tax rate of 30%, that is 0.70, gives the equivalent taxable yield; after 30% tax, 8% leaves 5.6%.
- A8.0%Correct
- B7.28%
- C3.92%
- D9.5%
Explanation
Required pre-tax yield = 5.6% / (1 - 0.30) = 5.6/0.70 = 8.0%. Multiplying 5.6% by 1.3 gives 7.28%, which is the wrong gross-up method. Multiplying by 0.70 gives 3.92%, which reverses the direction.
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