Some investors take an interest in municipal bonds when they learn about the potential tax advantages they offer. But it’s important to remember that not all municipal bonds are created equal, and the tax treatment of one can be much different than the tax treatment of another.
At the highest level, municipal bonds, also known as munis, are typically exempt from federal income taxes. In some instances, these debt securities are excused from state and local taxes, but that often depends on whether the investor lives in the state in which the bond was issued. If the bonds are issued by another state, the investor’s home state may collect taxes on the interest income from the bond.3
72% of municipal bonds are owned by individuals directly or through mutual funds.1,2
Municipal bonds can get even more complicated if the investor buys an existing bond. For example, if the bond is purchased at a discount (less than the price at which it was offered initially), capital gains may be a factor when the bond is sold. But the tax treatment of the municipal bond dividends payments may be different.3
And it can get more involved. A bond that’s issued for a municipal improvement (such as an airport improvement bond, for example) may be sponsored by a corporation and not by the city or local government. In that instance, the bond’s income could be subject to the alternative municipal tax.3
Here were the most compelling findings from the 2023 survey
Inflation is in focus: Both workers and retirees were concerned that the higher cost of living will make it hard for them to save money. Some were worried that their money would not be able to keep up with higher costs, and more were concerned that they might need to make lifestyle changes due to inflation.
And Jesus answered and said to them: ‘Take heed that no one deceives you.’—Matthew 24:4
If you’re thinking, “There’s a lot to know with munis,” you’re right. We would welcome the opportunity to help you gain a more in-depth understanding of how munis work and explain the different types. One of the first concepts that we will explain is that at the most basic level, there are two types of municipal bonds:4
General obligation bonds—a promise by the issuer to levy taxes sufficient to make full and timely payments to investors.
Revenue bonds—municipal bonds whose interest and principal are backed by the revenues of the project that the bonds are funding. And as we mentioned earlier, it’s critical to know whether a government entity or a corporation issued the bond!
Both general obligation and revenue bonds are subject to certain risks, including the market risk that the bond price will fluctuate over time. Also, the bonds are subject to credit risk (will the issuer be able to make the payments?) and liquidity risk, which is the risk that trading the bond may impact the market price. Some municipal bonds also may have what’s referred to as a “call risk,” which is the risk that a bond may be redeemed prior to maturity.
Remember, this article is for information purposes only and is not intended as a substitute for real-life advice. As you move down the path of exploring municipal bonds, we can provide you with examples of how municipal bonds have been used in real-life situations as part of an overall financial strategy.
- Municipal Bonds for America, 2023 https://munibondsforamerica.org/resources/what-are-muni-bonds/#:~:text=Who%20buys%20municipal%20bonds%3F,mutual%20funds%20and%20the%20like.&text= About%2025%20percent%20of%20bonds,insurance%20companies%2C%20but%20also%20banks
- Mutual funds are sold only by prospectus. You should consider the charges, risks, expenses, and investment objectives carefully before investing. We can provide you with a prospectus containing information about the fund and background of the investment company if you are interested in the municipal bond mutual fund. We encourage you to read it carefully before you invest or send money.
- Investopedia.com, January 17, 2022 https://www.investopedia.com/ask/answers/060215/how-are-municipal-bonds-taxed.asp