Municipal BondsMarcus Perry

Characteristics of Municipal Bonds

Municipal Bonds are issued by state and local governments.

Municipal Bonds are attractive to investors due to the federal tax exemption.

Municipal Bonds tax exemption was established as an incentive for investors to fund municipal projects.

Characteristics of Municipal Bonds

Federal Tax Exemption: The tax exemption applies to interest income not capital gains.

State Tax Exemption: A municipal bond may also be exempt from state taxes depending on the states own rule on how interest on municipal securities is taxed.

Doc Cam: Federal Tax Exemption The corporate bond has a higher return until the Federal tax

on the interest begins to rise over 25%.

This shows that the people who would purchase Municipal Bonds tend to be in the highest tax brackets, meaning they are the wealthy.

Notice at 30% the highly taxed investor will be better off investing in municipal bonds than Corporate bonds.

Explain the breakeven formula, how it can be used to understand the relationship between returns of the different bonds issued.

Types of Municipal Bonds General Obligation Bonds: are a tax backed debt

obligations issued by states, counties, special districts, and cities that are secured by revenue in the form of taxes.

Revenue Bonds: are issued for financing projects where the bond issuers promise the bondholders the eventual revenues generated by operating the project.

Moral Obligation Bonds: are revenue bonds that are backed by moral, but not legal, obligation of a government to appropriate funds in case of default.

Retirement of Municipal Bonds Serial Bonds: are bonds that mature in portions over

several different dates. Enables the Issuer to spread principal payment over several periods.

Class activity: Serial Bonds

If you find your name to the left take a piece of paper and write your Bond Serial # on it. (this will be turned in)

$15 million in serial bonds over a time period of 10 years.

Structured so that $3,000,000 matures after year 5, $3,000,000 matures after year 6, and so on.

Retirement of Municipal Bonds Sinking Fund: the repaying of funds that were borrowed

through bond issue. The municipal entity deposits money over time in order to be able to pay the lump-sum principal at maturity of the bonds issued.

Follow-up Questions

Who tends to purchase Municipal bonds and why?

What is the difference between a General Obligation Bond and a Revenue Bond?

What are the two ways that bonds are retired so the bond issuer can effectively pay the principal back to the bond holder without having to pay a lump-sum principal repayment at maturity?

Thank you!!