In an earlier post, I wrote about the regressive tax brackets when evaluated under the AMT structure. In this post, we will consider how these AMT brackets affect the yield of various flavors of tax exempt money market funds, looking specifically at the case of an investor domiciled in California.
There are many different types of money market funds; they are listed below in the following broad types:
- Fully taxable at local, state and federal level, e.g. Vanguard’s Prime money market fund.
- Taxable only at federal level, e.g. Vanguard’s Treasury money market fund.
- Taxable only at local, state level, taxable at federal level if you are subject to AMT, e.g. Vanguard’s tax-exempt money market fund. (Note: The portion of the interest earned that comes from your state of residence is tax-exempt)
- Taxable only at federal level if you are subject to AMT, otherwise it is fully tax-exempt, e.g. Vanguard’s California tax-exempt money market fund (for California residents).
- Fully tax-exempt, e.g. Fidelity’s California AMT-free money market fund.
The following table summarizes the situation:

The reason why certain tax-exempt funds are subject to AMT is because they contain private activity bonds (e.g. bonds to build a shopping mall). Tax-exempt funds hold these bonds because they tend to have better yield.
Let’s calculate the net yield, with the effect of AMT considered, for an investor with the following tax situation:
State tax bracket 9.3% (California)
Federal tax bracket 28%
AMT bracket 32.5%
1) For a fully taxable fund, e.g. VG Prime MMF yields 5.10%
Net yield (no AMT) = 5.10% * (1 – 0.28 – 0.093*(1-0.28)) = 3.33%
Net yield (with AMT) = 5.10% * (1 – 0.325 – 0.093) = 2.97%
2) For a federal-taxable-only fund, e.g. VG Treasury MMF yields 4.69%
Net yield (no AMT) = 4.69% * (1 – 0.28) = 3.38%
Net yield (with AMT) = 4.69% * (1 – 0.325) = 3.17%
3) For a state-taxable-only fund, e.g. VG Tax exempt MMF yields 3.38%
This MMF has about 12.6% in CA and 17% subject to AMT
Net yield (no AMT) = 3.38% * (1 – 0.093*(1-0.126)) = 3.11%
Net yield (with AMT) = 3.38% * (1 – 0.093*(1-0.126)) * (1-0.17*0.325) = 2.93%
4) For a state-specific tax-exempt fund, e.g. VG CA tax exempt MMF yields 3.31%
This MMF has 100% in CA and about 18.2% subject to AMT
Net yield (no AMT) = 3.31%
Net yield (with AMT) = 3.31% * (1-0.182*0.325) = 3.11%
5) For a state-specific TE and AMT-free fund, e.g. Fidelity’s CA AMT-free MMF yields 3.19%
This MMF has 100% in CA and 0% subject to AMT
Net yield (no AMT) = 3.19%
Net yield (with AMT) = 3.19%
Interestingly, assuming my calculations are correct, Fidelity’s CA AMT-free fund turns out to be the best for an investor subject to AMT, despite the lower expenses of VG’s CA TE MMF.
The after-tax yields with and without AMT for the above scenario, and other scenarios for an investor in California are given below:

Note 1: The yields quoted are read from the respective website as of 2006-08-17.
Note 2: Most equivalent-yield calculators available on the web DO NOT take into account of AMT.
Update Nov 06, 2006
It appears that under California tax law, a mutual fund must have at least 50% of the income derived from California before that portion can be considered as state tax free. Under this scenario, the yield for the type 3 “state-taxable-only” money market fund is actually lower than the number shown in the tables above.