Pretax yields of state and local government (SALG) bonds are examined for evidence of implicit taxes.
This paper examines pretax yields on state and local government (SALG) bonds for evidence of implicit taxes associated with the regular income tax and the alternative minimum tax (AMT) systems.
The third section develops predictions for the relations between the pretax yields of taxable, AMT, and tax-exempt SAIG bonds.
The following model is estimated separately for each of the two days in the sample to test for differences in average risk-adjusted pretax yields across SALG bond types:
Using this research design, the [b.sub.0], [b.sub.1], and [b.sub.2] coefficients can also be used to measure the pretax yields for tax-exempt bonds ([b.sub.0]), AMT bonds ([b.sub.0] + [b.sub.1]), and taxable bonds ([b.sub.0] + [b.sub.2]), after subtracting the risk premiums associated with differences in bond ratings, call provisions, sinking fund requirements, insurance, and years-to-maturity These risk-adjusted yields can then be used to estimate the implicit taxes in tax-exempt and AMT bond yields.
The relative risk-adjusted pretax yields on tax-exempt bonds and AMT bonds are a function of the marginal investor's assessment of the probability of being subject to the AMT and the marginal investor's AMT rate.
There are no feasible values for [p.sub.c] and K in Equation (12) that would produce the observed spread between the pretax yields, suggesting that the marginal investors in SALG bonds are individuals.
I examine risk-adjusted pretax yields on SALG bonds (tax-exempt bonds, AMT bonds, and taxable bonds) for evidence of implicit taxes.
Third, risk-adjusted pretax yields are estimated from a regression model that removes the estimated risk premiums associated with differences in bond ratings, call provisions, sinking fund requirements, insurance, and years-to-maturity.