Calculate the implicit and explicit tax rates for the following three assets. The required pretax total rate of return Ro for each asset is 20% for both the fully taxable asset and the partially taxable asset and 8% for the tax exempt asset. The required pretax risk premium Rrp for each asset is 7% for the fully taxable, 10% for the partially taxable, and 3% for the tax exempt asset. Prepare a table similar to Table 5.2 (first ignoring risk differences and then adjusting for risk differences across assets). Discuss your results.
Table 5.2

Fully Taxable Bond (asset b) 20% Partially Taxable Bond (asset a) 12% Tax-Exempt Bond (asset m) Required pretax return Ro 12% Ignoring Risk Differences Rm :-r* 12%, implies Explicit tax rate t Implicit tax rate t Total tax rate (20%-12%)/20% = 40% (20%-20%)/20% = 0% 40% (12%-12%)/20% 0% (20%-12%)/20% = 40% 40% (12%-12%)/20% = 0% (20%-12%)/20% = 40% 40% Adjusting for Risk Differences Required pretax risk premium RP 5% 2% 3% 15% (1596-9%)/15% (15%-15%)15% 10% (1096-9%)/15% 6.7% (15%-10%/15% # 9% (9%-9%)/15% (15%-9%/15% = 40% r* Explicit tax rate t 40% 0% Implicit tax rate t 0% 33.3% Total tax rate 40% 40% 40% Other calculations: g (% of return taxable)" =Ra (1-gt) 100% 15(1-1 .40) = 996 05(1-1x .40):3% 25% 10(1-.25 .40) = 9% 02(1-.25 x .40) 1.8% 0% .09(1-0 .0) = 9% .03(1-0 .0) 3%