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 Author: blearynet Number: of 35222 Subject: CD or treasury bill ? Date: 6/19/2006 7:44 PM
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 In a high tax state (CA), in a taxable account, it seems that it would be better to buy 6 month T-bills than CDs, given that the rates are fairly close together. Am I missing something here? Is there a formula for determining which is better?
 Author: markr33 Number: 17169 of 35222 Subject: Re: CD or treasury bill ? Date: 6/19/2006 7:58 PM
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 In a high tax state (CA), in a taxable account, it seems that it would be better to buy 6 month T-bills than CDs, given that the rates are fairly close together. Am I missing something here? Is there a formula for determining which is better?You calculate the after-tax rates of return for each of them and then purchase the one that has higher return. This is not always as simple as it sounds as tax rates can change at many unexpected points due to phaseouts (and carryovers of Federal phaseouts to state tax returns), but a ballpark figure (usually accurate) can easily be determined.
 Author: DeltaOne81 Number: 17172 of 35222 Subject: Re: CD or treasury bill ? Date: 6/19/2006 8:36 PM
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 I agree with Mark that there can be complications, but the basic formula for 'tax equivalent yield' is:yield / (1 - exempted tax rate)In the case of T-Bills, we'd be talking about state taxes.Here in Mass we have a relatively simple, 5.3% flat state tax rate, or 0.053.So for a 5% T-Bill, to use round numbers, we're looking at:5 / (1 - 0.053) = 5 / .947 = 5.28%
 Author: imdajunkman Number: 17174 of 35222 Subject: Re: CD or treasury bill ? Date: 6/20/2006 12:35 AM
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 In choosing between fixed-income instruments of the same credit quality and the same maturity, the impact of taxes is typically the most important consideration. But transit time, i.e., how long it takes to move money into a vehicle and out of it, can also be a consideration. One advantage of dealing with Treasury Direct, rather than messing around with CD's, even if the yield of the latter calculates out to be slightly superior, is that Treasury purchases and redemptions are instantaneous on the day of issue and the day of redemption. Whereas if one is chasing CD yields all over the country, there are going to be transit lags which have the effect of extending the holding period, thus degrading the yield. Obviously, a lot of money has to be involved before transit time becomes significant, or the purchases have to be repetitive. But right now, except for isolated examples offered by credit unions that few investors have access to, nothing is beating the yields to be obtained from Treasuries, nor the ease of dealing with the Treasury Department. That has not always been the case in the past, nor will it likely always be the case in the future. But right now, short-term Treasuries are a Saver's sweet spot, especially the 6-months bill.As always, due to the fact that each investor's/saver's circumstances are different, there are going to be exceptions to that broad, sweeping statement. So each person has to run their own numbers. Also, even if the yield between tax-advantaged instruments and fully taxables one is exactly the same, or slightly favors fully taxable ones, there might be a "avoidance effect" whereby the advantaged security should be chosen. In other words, if choosing Treasuries rather than CD's (or their equivalent) lowers one's tax bracket enough so that one isn't hit so hard with taxes on one's other incomes, then they become the preferred choice. Again, the effect probably won't become significant unless large sums of money are involved. But the satisfaction of reducing the amount of money that the government condfiscates through taxes might a source of satisfaction that is priceless.Lastly, I'd argue that constantly dealing with the same institutions enables efficiency and proficiency. Yes, one has to keep an eye on CD rates using sources of information like wwww.bankrate.com. But by dealing with the Treasurry Department in a sustained and persistent fashion, one develops a "feel" for yield curves that can be invaluable. Obviously, I'm a huge fan of TreasuryDirect. It's a shame that the government is borrowing the huge sums of money it is, and the interest rates we are being paid are, in some sense, coming out of our own pockets or our children's children's pockets. But there are good arguments to be made for having a country's borrowings come from the savings of its own citizens rather than foreign capital. That's straining the notion of patriotism a bit (or the notion of doing well by doing good). But I'd rather keep those dollars here in this country rather than pay them out to overseas investors.
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 Author: markr33 Number: 17175 of 35222 Subject: Re: CD or treasury bill ? Date: 6/20/2006 12:55 AM
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 Obviously, I'm a huge fan of TreasuryDirect.I've also been quite pleased with TD. I've also been surprised that a component of the Federal government can be so efficient and work so well. It is definitely the exception rather than the rule.It's a shame that the government is borrowing the huge sums of money it is, and the interest rates we are being paid are, in some sense, coming out of our own pockets or our children's children's pockets.Interestingly, I've been noticing that at least on th short-term issues, the new issues are smaller than the old ones they are refunding! Maybe our Federal government is moving more of the debt out longer (which is what I would advcate right now - long term fixed rate debt to be eaten up by inflation).But there are good arguments to be made for having a country's borrowings come from the savings of its own citizens rather than foreign capital. That's straining the notion of patriotism a bit (or the notion of doing well by doing good). But I'd rather keep those dollars here in this country rather than pay them out to overseas investors.Not necessarily. It depends on what else those dollars could be doing. If they can be invested in the economy at large and yield more than 5.X% consistently, then it is definitely better to allow foreigners to finance the debt, while we invest in our businesses at a higher overall yield.
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 Author: blearynet Number: 17176 of 35222 Subject: Re: CD or treasury bill ? Date: 6/20/2006 1:57 AM
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 Thanks to everyone for their responses, which have been very helpful. I now feel much more confident with making choices of fixed income instruments.
 Author: brucedoe Number: 17177 of 35222 Subject: Re: CD or treasury bill ? Date: 6/20/2006 11:00 AM
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 A good point about transit time. Actually, I am sticking with CDs, although I was involved in Treasury ladders at one time. The place where I had most of my CDs (Independence Federal Savings in Washington, D.C.) changed their philosophy on CDs and quit giving a decent yield on their three-year double bump up CDs to where the discount on yield is incredibly large. So as CDs matured, I have been switching to Pentagon Credit Union and E*Trade (E*Trade has a nice 6-mo. CD, incidentally). This was a lot of switching with careful watch of maturity dates.Another problem having accounts in the District is that the city can confiscate your investment after three years if the account is inactive (but drawing interest) so every three years you have to order Independence to update your accounts. Just finished switching my last CD from Independence earlier this month. Incidentally, Independence never asked why I was withdrawing so much money from them. Though the aggregate sum was large in my view, I guess it was small potatoes for them.brucedoe
 Author: Lokicious Number: 17178 of 35222 Subject: Re: CD or treasury bill ? Date: 6/20/2006 11:12 AM
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 Let's not overplay relatively minor issues, such as state and local taxes and lag time in transactions. The issue in choosing between "fixed-income" choices of the same risk level that fit liquidity needs is simply yield. In high state and local tax situations, obviously Treasuries and TIPS (and sometimes other government issues) get a comparative boost in yield compared to CDs or Money Markets (except "Federal" Money Markets) or Corporates, etc. But a boost of 25 or even 50 basis points doesn't make up for a 100 basis point difference in interest payments.Also, although lag time in transactions may make a big difference for those using very short term "fixed-income" instruments as temporary holding places while waiting for something better to come along, if you are looking to optimize return on fixed-income instruments for the long term, a little lag time to get a 6% 5-tear CD instead of a 5% Treasury is well worth the wait of a few days.I'm generally pleased with T-Direct, now the Treasury and TIPS yields are more competitive. But we just went through a period of almost 5 years when Treasuries and TIPS were not competitive with the better paying CDs, and given that banks and credit unions have to compete with each other and are more susceptible to local supply and demand needs than the Treasury, I think it is likely we will continue to find occasional opportunities where some bank or credit union is offering a significantly better after-tax yield than Treasuries.Also, for those looking to put away "fixed-income" for the long term, who are simply trying to maximize yield and not have liquidity for buying opportunities, it is always difficult to decide whether to go with shorter term instruments, with the hope of higher yields when those instruments mature, or to lock in current rates for longer. This may especially be a dilemma when yields are flat or inverted. But, as tempting as 6 month T-bills may look at the moment, there is no guarantee that yields, short term and long term, won't be lower in 6 months. There may be talk of inflation and higher rates, but the economic prognasticators are almost universally talking economic slowdown, and common sense suggests to me that this time they may get it right. Even if there isn't recession, that might lead to flight from stocks to bonds or cuts in rates by the Fed, which in turn, might mean lower interest rates.
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 Author: vickifool Number: 17179 of 35222 Subject: Re: CD or treasury bill ? Date: 6/20/2006 11:39 AM
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 I agree with Mark that there can be complications, but the basic formula for 'tax equivalent yield' is:yield / (1 - exempted tax rate)In the case of T-Bills, we'd be talking about state taxes.Here in Mass we have a relatively simple, 5.3% flat state tax rate, or 0.053.So for a 5% T-Bill, to use round numbers, we're looking at:5 / (1 - 0.053) = 5 / .947 = 5.28%You can also adjust for state taxes being deductible from federal taxes. Exempting interest income from state taxes lowers your deduction and raises your federal tax. Assume your marginal federal tax bracket is 28%5 / (1 - 0.053(1 - 0.28)) = 5 / (1 - 0.053(.72)) = 5 / (1 - 0.038) = 5.20California state taxes are up to 9.3% Vickifool
 Author: imdajunkman Number: 17180 of 35222 Subject: Re: CD or treasury bill ? Date: 6/20/2006 12:05 PM
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 Author: imdajunkman Number: 17181 of 35222 Subject: Re: CD or treasury bill ? Date: 6/20/2006 12:24 PM
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 "It depends on what else those dollars could be doing. If they can be invested in the economy at large and yield more than 5.X% consistently, then it is definitely better to allow foreigners to finance the debt, while we invest in our businesses at a higher overall yield. "markr33, Shrewd point, as is your usual comment, and I totally agree. My unspoken hope, by getting the public more involved in the saving process, would be to also get them more involved in the budgeting process so that they would begin to exert their voices about how those borrowings are spent and might make a shift from consumption (which is what war spending is, for example) to genuine investment.The US can be slammed for a lot of things but the one area were no one can match us is "Yankkee ingenuity " and entrepeneurship. Often that entrepeneur is operating on a shoestring budget and with the meagerest of savings, but just think what this country might be if the process of captial formation and deployment were more widely understood and supported.Was it Marx who dismissed the British as "a nation of shopkeepers"? I'd like to see the US characterized as a nation of small investors, and investing begins with saving. Charlie
 Author: DeltaOne81 Number: 17182 of 35222 Subject: Re: CD or treasury bill ? Date: 6/20/2006 12:53 PM
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 You can also adjust for state taxes being deductible from federal taxes. Exempting interest income from state taxes lowers your deduction and raises your federal tax. Assume your marginal federal tax bracket is 28%5 / (1 - 0.053(1 - 0.28)) = 5 / (1 - 0.053(.72)) = 5 / (1 - 0.038) = 5.20A darn good point.Luckily I don't itemize at this point, so it doesn't apply to me, but you just gave me another thing to think about.For those that do itemize, the change here is that your state taxes are tax deducitle (as Vicki made clear), which created a concept that I'll call "marginal net state tax rate".With our 5.3% state tax and me in the 25% federal bracket, that's 5.3%(1-25%), which is right about 4% (3.975% to be precise). If I was to itemize, then that is the marginal state tax rate I'd really pay, and *that* is the number that should be used as the state tax rate in the tax-equivalent yield formula.5% / (1-.03975), which, as Viki said, is right around 5.2%.Wow, learn something new everyday :)
 Author: markr33 Number: 17183 of 35222 Subject: Re: CD or treasury bill ? Date: 6/20/2006 1:08 PM
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 <>A darn good point.Luckily I don't itemize at this point, so it doesn't apply to me, but you just gave me another thing to think about.For those that do itemize, the change here is that your state taxes are tax deducitle (as Vicki made clear), which created a concept that I'll call "marginal net state tax rate".With our 5.3% state tax and me in the 25% federal bracket, that's 5.3%(1-25%), which is right about 4% (3.975% to be precise). If I was to itemize, then that is the marginal state tax rate I'd really pay, and *that* is the number that should be used as the state tax rate in the tax-equivalent yield formula.5% / (1-.03975), which, as Viki said, is right around 5.2%.Wow, learn something new everyday :)Ok, what the heck, I'll throw in another monkey wrench :-) (since we are already in the second digit to the right of the decimal point :-)The formula above is not necessarily true for everyone who itemizes since at some AGI limit, one begins to lose their itemized deduction as income rises. Therefore, the itemized deduction for state taxes is worth a few percent less in many cases.
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 Author: rog56 Number: 17185 of 35222 Subject: Re: CD or treasury bill ? Date: 6/20/2006 2:23 PM
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 Was it Marx who dismissed the British as "a nation of shopkeepers"?Go further back..Adam Smith, The Wealth of Nations, 1775: "To found a great empire for the sole purpose of raising up a people of customers, may at first sight appear a project fit only for a nation of shopkeepers. It is, however, a project altogether unfit for a nation of shopkeepers; but extremely fit for a nation that is governed by shopkeepers."And, attributed to Samuel Adams, "American Independence," 1 August 1776, Speech delivered at the State House in Philadelphia: "Men who content themselves with the semblance of truth, and a display of words, talk much of our obligations to Great Britain for protection. Had she a single eye to our advantage? A nation of shopkeepers are very seldom so disinterested. Let us not be so amused with words; the extension of her commerce was her object."Napoleon I, who was familiar with Adam Smith's writings, is reported as later using a French version disparagingly about England's preparedness for war against France: "L'Angleterre est une nation de boutiquiers."Earlier than the above, the following has been attributed to Josiah Tucker, the Dean of Gloucester, in 1766: "And what is true of a shopkeeper is true of a shopkeeping nation."
 Author: vickifool Number: 17186 of 35222 Subject: Re: CD or treasury bill ? Date: 6/20/2006 3:53 PM
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 For those that do itemize, the change here is that your state taxes are tax deductible (as Vicki made clear), which created a concept that I'll call "marginal net state tax rate".With our 5.3% state tax and me in the 25% federal bracket, that's 5.3%(1-25%), which is right about 4% (3.975% to be precise). If I was to itemize, then that is the marginal state tax rate I'd really pay, and *that* is the number that should be used as the state tax rate in the tax-equivalent yield formula.5% / (1-.03975), which, as Vicki said, is right around 5.2%.Wow, learn something new everyday :)I'm still working on this concept, myself. We're switching our family economy from salary income to investment income, and I want to maximize our spendable amount so it will last long enough. (VickiSpouse's job is being eliminated and he gets to Retire Early.)I'm currently trying to understand taxes enough to project them. I have a handle on what we want to spend, I now need to figure out how much more income it will take to cover the associated taxes. Vickifool
 Author: imdajunkman Number: 17190 of 35222 Subject: Re: CD or treasury bill ? Date: 6/20/2006 5:31 PM
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 Author: Lokicious Number: 17191 of 35222 Subject: Re: CD or treasury bill ? Date: 6/20/2006 11:21 PM
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 I'm currently trying to understand taxes enough to project them. I have a handle on what we want to spend, I now need to figure out how much more income it will take to cover the associated taxes. Vicki,I agree that getting a handle on taxes during retirement, even assuming current tax laws (which we know will change) is even harder than projecting future expenses. I'm also pretty sure, in our case, that we will be in a lower tax bracket (i.e., current 15%) for the first part of retirement, assuming we postpone retirement account withdrawals and Social Security, than once we have to take RMDs.I generally try to leave a healthy margin for error, so basically what I've been doing for estimates, even during phase one, is to take projected expenses and figure taxes on those, with no deductions. That's certainly an overestimate for phase 1, but maybe not later on.Of course, you can make the effort to be more precise, although even if you can come close on income projections, tax brackets are adjusted for "inflation." If you have RMDs, and you think you can live on those plus SS, you can more or less figure those out and what the taxes would be.I also know how much current state plus federal taxes are on Adjusted Gross Income and I figure taxes in retirement will always be less percentage-wise than that. So, if I figure initial expenses plus about 3/4 or 4/5 of current tax % on expenses as part of my initial withdrawal needs, that should give me margin for error. But I'm aiming for low initial withdrawal rate. If you're going to have to tighted the belt to survive, being more accurate and not worrying so much about margin for error may make more sense.
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 Author: vickifool Number: 17208 of 35222 Subject: Re: CD or treasury bill ? Date: 6/21/2006 5:48 PM
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 I agree that getting a handle on taxes during retirement, even assuming current tax laws (which we know will change) is even harder than projecting future expenses. I'm also pretty sure, in our case, that we will be in a lower tax bracket (i.e., current 15%) for the first part of retirement, assuming we postpone retirement account withdrawals and Social Security, than once we have to take RMDs.You might want to consider withdrawing at least enough from your IRA to fill up the 15% bracket. Return of capital (what I always thought of as savings before I knew about stocks and bonds) is taxed at 0% income tax! I generally try to leave a healthy margin for error, so basically what I've been doing for estimates, even during phase one, is to take projected expenses and figure taxes on those, with no deductions.I wish I'd thought of that! I wasn't sure it would work but, I just tested it and it looks close enough on the years I've finished. Good. I'll quit trying to refine those numbers.I also know how much current state plus federal taxes are on Adjusted Gross Income and I figure taxes in retirement will always be less percentage-wise than that.Our effective federal tax rate has varied from 4% to 40% of AGI in the last several years, so that didn't work for me. I think with AMT we paid 105% of AGI once. (We lived off our savings/capital that year.)Vickifool
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 Author: Lokicious Number: 17209 of 35222 Subject: Re: CD or treasury bill ? Date: 6/21/2006 8:27 PM
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 You might want to consider withdrawing at least enough from your IRA to fill up the 15% bracket.Important point, Vicki. I've got a few year, yet, and it isn't clear where the brackets will be at that point (even if tax law is the same or similar) or exactly what earnings from savings and stock dividends in taxable account will be at that point.My current thinking is gradually cashing out, over a few years, some rollover IRA money, paying 15%, and moving it into a Roth. But it may be possible to do that with some money from the main retirement account, too (the rules are confusing and there's no hurry to try to figure them out, since they will probably change, anyway). The rollover IRA does have more flexibility (e.g., CDs or Treasuries).Then there's the question of when to start taking SS. I had assumed waiting, since we won't need the money through phase 1, makes most sense. But there are a lot of variables, including if they do something that hurts folks like us.This is why I'm big on understanding all the options and running various scenarios. My bad case scenarios still have us with initial withdrawal of about 3% not including SS. I can't see any way of protecting against worst case scenarios that wouldn't greatly increase vulnerability to bad case and normal case scenarios.Are you remembering, in your budgeting, to include big ticket items/home mainenance and long-term care insurance?
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