How to maximize your after-tax yield on cash at Charles Schwab

Imagine earning thousands of dollars more in after-tax income using as little as five minutes of your time. If you’re holding a large amount of cash at Charles Schwab, this article is for you. Their default bank sweep cash option for brokerage and retirement accounts is currently paying only 0.45%. To earn a higher yield, you need to manually invest the cash in a different option.

Before worrying about where to get the highest rate, you should first ask yourself:

1. What is the purpose of holding this cash?
2. Do I have more than I need?

If you have more cash than you need, you may want to consider investing it toward your long-term financial goals and objectives. But if there is a good reason to hold it and you have an appropriate amount for your own personal financial situation, here are some of the most popular options at Schwab:

Please note the rates discussed are the best I could find at Charles Schwab as of this writing (9/12/23). Better options may be available.

Short-term (90-day) T-Bills – 5.46%, with rates peaking around 5.52% for a 6-month term

While US Treasuries are not the same as cash, short-term treasuries can act as a good substitute given their high quality. When purchasing treasuries, one thing to remember is that their value will fluctuate until they mature. If interest rates increase, the value of any treasuries you hold will temporarily decrease. And the opposite is also true. So if you end up needing access to your funds before the maturity date, be prepared to accept less than you originally paid if interest rates have risen.

One additional benefit treasuries have is that they’re not subject to state or local income taxes. Not a big deal if you live in Texas, but it could make a difference if you live in California and are already in a high-income tax bracket.

Brokered CDs – 5.51% for ~90 days

As an alternative to no-penalty and traditional CDs, there are also CDs available either as a new issue or on the secondary market through traditional brokerage accounts. These can be purchased or sold through your brokerage company and the yield varies based on the maturity date. When using brokered CDs, be sure to watch out for any transaction fees to purchase or sell them, as well as whether they are callable or not, which means the underlying bank can choose to cash them in earlier than the maturity date. Also, know that they may lose value if interest rates rise and you need to sell them before the stated maturity date. While they don’t have any early withdrawal penalties, they still have some interest-rate risk.

Money Market Mutual Funds

Within brokerage accounts, there are usually options to purchase money market mutual funds. While the options vary widely based on the custodian and the amount of cash you are looking to invest, they can be an easy way to park cash temporarily.

When utilizing these funds, be careful of trading expenses and the underlying expense ratio for the fund, although just because a fund has a lower expense ratio doesn’t necessarily mean it will have the highest yield. These funds would not be eligible for FDIC insurance and could technically lose money, although it is very unlikely.

Schwab Value Advantage Money Fund – Investor Shares (SWVXX) – 5.24%

Schwab’s Value Advantage Money Fund invests in “high-quality, short-term money market investments issued by U.S. and foreign issuers.” Note that if you have over $1M in cash, the equivalent SNAXX fund is available with a lower expense ratio and higher yield.

Schwab U.S. Treasury Money Fund – Investor Shares (SNSXX) – 5.05%

This fund invests in “securities backed by the full faith and credit of the U.S. government.” In 2022, 100% was U.S. obligation interest which is not taxable at the state or local level. Note that if you have over $1M in cash, the equivalent SUTXX fund is available with a lower expense ratio and higher yield.

Schwab Municipal Money Fund – Investor Shares (SWTXX) – 3.01%

This fund invests in “short-term municipal money market securities issued by states, local governments and other municipal agencies.” Since it’s municipal debt, the interest is not taxable at the federal level. The taxability at the state and local level depends on the state, as any income derived from debt of your home state would not be taxable to you. Schwab provides supplementary tax information each year to help you determine this amount, although this likely will not be listed on your Form 1099 from them as it is with some other custodians. As with the funds above, the equivalent SWOXX is available if you have over $1M of cash to invest in it.

The rates above are pre-tax. There are a number of nuances that need to be considered when calculating your after-tax return, such as:

• Federal tax bracket
• State tax bracket
• % of U.S. obligation interest
• % of state-sourced income for any municipal bond money market funds

When applied to your own situation, you may actually be better off taking a lower yield if less of it is subject to federal or state taxation. For example, SNSXX is currently yielding a higher after-tax rate than SWVXX when your state income tax bracket exceeds about 4%. Given that most state income tax rates are higher, many investors would be better in SNSXX despite the lower pre-tax yield.

Let’s look at a few hypothetical examples of the actual after-tax yields given current rates:

Retired couple in Virginia (22% federal, 5.75% Virginia)

• 90-day T-Bills – 4.26%
• 90-day brokered CD – 3.98%
• SWVXX – 3.78%
• SNSXX – 3.94%
• SWTXX – 2.83% net of taxes

High-income couple in California (40.8% federal, 13.3% California after considering net investment income tax “NIIT” and CA’s mental health services tax)

• 90-day T-Bills – 3.23%
• 90-day brokered CD – 2.52%
• SWVXX – 2.4%
• SNSXX – 2.98%
• SWTXX – 2.63%

High-income individual in Texas (40.8% federal after considering NIIT, no state income tax)

• 90-day T-Bills – 3.23%
• 90-day brokered CD – 3.26%
• SWVXX – 3.10%
• SNSXX – 2.98%
• SWTXX – 3.01%

As you can see, federal and state tax rates can make a big difference in which option yields the most net of federal, state, and local taxes. Note that within retirement accounts (IRAs, Roth IRAs, etc.), these after-tax yields do not matter.

It’s important to note that there are other good options to consider outside of your custodian, as well. These can include no-penalty CDs, traditional CDs, online savings, and money market accounts. The best option for you depends on time horizon, liquidity need, risk tolerance, and other factors.

No matter what you choose for your cash, utilizing any of the options above will hopefully provide a much better return than the 0.45% default at Schwab or the 0.06% your typical checking account pays.

Sources:

https://www.schwab.com/cash-investments

https://www.schwabassetmanagement.com/products/swvxx

https://www.schwabassetmanagement.com/products/snsxx

https://www.schwabassetmanagement.com/products/swtxx

https://www.cnbc.com/select/best-high-interest-checking-accounts/#:~:text=A%20high%2Dyield%20checking%20account,Deposit%20Insurance%20Corporation%20(FDIC)