🎯 In 30 seconds: Compare what you keep, not what is quoted. Bank interest is taxed by the IRS and your state. Treasury interest is taxed only federally. In-state municipal bond interest is often taxed by neither. A simple formula puts them on the same footing.
How each kind of interest is taxed
| Source of interest | Federal | State and local |
|---|---|---|
| Savings, money market accounts, CDs | Taxed as ordinary income in the year it is credited | Taxed |
| Treasury bills, notes, bonds | Taxed | Exempt |
| I bonds and EE bonds | Taxed when cashed (or yearly, if you choose) | Exempt |
| Municipal bonds | Often exempt; some are subject to AMT or fully taxable | Often exempt if you live in the issuing state; rules vary |
A CD’s interest is taxed each year it is credited, even if you cannot touch it until maturity. You should get a Form 1099-INT for $10 or more of interest, and all interest is reportable even without one.
The formulas
| After-tax yield | Yield × (1 − the tax rates that apply to it) |
| Tax-equivalent yield | Tax-free yield ÷ (1 − the tax rates it avoids) |
Use your marginal rate, the rate on your next dollar of income, not your average rate. The examples below add federal and state rates together. That is the common shortcut; it slightly overstates the state piece for people who deduct state tax on their federal return.
Worked example: a high-tax state
Assume a 24% federal bracket for 2026, a 9% state marginal rate, and three example yields: a CD at 4.00%, a T-bill at 3.90% and an in-state municipal bond at 3.00%.
| Option | Taxes that apply | Math | You keep |
|---|---|---|---|
| CD 4.00% | Federal 24% + state 9% | 4.00 × 0.67 | 2.68% |
| T-bill 3.90% | Federal 24% only | 3.90 × 0.76 | 2.96% |
| In-state muni 3.00% | None | 3.00% |
The lowest quoted yield keeps the most. Put another way, the muni’s tax-equivalent yield is 3.00 ÷ (1 − 0.33) ≈ 4.48%, and the T-bill is worth about 3.90 ÷ (1 − 0.09) ≈ 4.29% in CD terms.
Same numbers in a no-income-tax state
Texas and Florida, among others, have no state personal income tax. Run the same yields with only the 24% federal rate:
| Option | Math | You keep |
|---|---|---|
| CD 4.00% | 4.00 × 0.76 | 3.04% |
| T-bill 3.90% | 3.90 × 0.76 | 2.96% |
| Muni 3.00% | none | 3.00% |
Now the CD comes out ahead, and the muni’s tax-equivalent yield drops to 3.00 ÷ 0.76 ≈ 3.95%. The state-tax exemption is worth nothing where there is no state tax.
What the formula leaves out
- Account type. In an IRA or 401(k), the interest is not taxed yearly, so the exemptions do not help there.
- Risk. CDs and Treasuries are guaranteed to the limits; municipal bonds carry credit risk and their prices move with rates.
- AMT and taxable munis. Some municipal bonds are subject to the alternative minimum tax or are fully taxable.
- Brackets change. A big bonus or a retirement year can move you to a different rate.