You put money into an account and earn a real interest rate of 6 percent. Inflation is 2 percent, and your marginal tax rate is 30 percent. What is your after-tax real rate of interest?
To calculate the after-tax real rate of interest, we need to consider all the factors mentioned: the nominal interest rate, inflation, and the tax rate.
Step 1: Calculate the real interest rate.
The real interest rate is the nominal interest rate minus the inflation rate. In this case, the nominal interest rate is 6 percent and the inflation rate is 2 percent. So, the real interest rate is 6% - 2% = 4%.
Step 2: Calculate the after-tax interest rate.
To calculate the after-tax interest rate, we need to account for the tax rate. First, we need to find out how much of the nominal interest will be taxed. Assuming the entire interest earned is subject to tax, we multiply the nominal interest rate by the tax rate: 6% * 30% = 1.8%.
Step 3: Deduct the tax amount from the nominal interest rate.
Subtracting the tax percentage from the nominal interest percentage gives us the after-tax interest rate: 6% - 1.8% = 4.2%.
Step 4: Deduct the inflation rate from the after-tax interest rate.
Finally, subtract the inflation rate from the after-tax interest rate to obtain the after-tax real rate of interest: 4.2% - 2% = 2.2%.
Therefore, your after-tax real rate of interest is 2.2%.