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Municipal bonds are also called "Munis" and are bonds that are issued by state and local governments. Like a corporation that will issue bonds to pay for its operations, a state or local government will borrow money to cover its government operations. Munis often represent investments in state and local government projects that have an impact on our daily lives, including schools, highways, hospitals, housing, sewer systems and other important public projects. Like most bonds, Muni bonds are issued at a contracted interest rate and for a specified period. The government entity is obligated to pay the interest to its bond holders and must repay the borrowed amount of the bonds at the end of the bond term. Muni bonds are created when state and local governments sell bonds through the public securities markets. With approximately $1.7 trillion in municipal tax free bonds currently in the hands of investors, the municipal bond market is one of the world's largest and vibrant securities markets. More than 50,000 state and local entities issue municipal securities, and there are more than two million separate bond issues outstanding. A government entity has some flexibility as to how much debt it can issue and what interest rate it will pay, although it must make the bond attractive enough to attract investors. State and local governments compete with Corporate bonds and Treasury securities as well as the stock market for your investment dollars. Muni Bonds can be purchased through your brokerage account or you can buy muni bond mutual funds . Transaction costs on municipal bonds compare favorably with those on other securities. You buy or sell highly rated, easily traded municipal bonds in the secondary market, transaction costs are generally somewhere between 1/2% to 3% (i.e. $5 to $30 per $1,000 bond). Municipal issuers will also sell zero-coupon bonds . These bonds will not pay any interest until the maturity date, when you receive all of your principal back plus interest for the entire period the money was borrowed. Muni bonds are also called tax free bonds or tax free finance bonds and normally carry higher interest rates than Treasury Securities (issued by the US Government). Munis are often called tax free municipal bonds because the federal government does not require investors to pay federal income tax on the interest paid. State and local governments also often waive state and local income taxes on the bonds, so even though they pay lower rates of interest, for borrowers in high tax brackets the bonds can actually have a higher after-tax yield than other forms of fixed-income investments. Since muni bonds are tax-free, you must compare their after-tax yield to the taxable yield of other bonds and securities. Below is a table that shows the yields you would need from a taxable bond to get the equivalent after-tax return assuming that your Federal tax rate is 25.00% , and your State rate is 9.300% ( an effective rate of 31.975%) As demonstrated below, you would need to earn better than a 7.35% yield on a taxable bond to do better than a 5.00% muni bond. Select a tax-free yield on the left, and look across to find the taxable yield you would need to get the equivalent after-tax return.
Additional information about muni bonds can be found at:
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Muncipal Bonds
