Why Invest in Municipal Bonds
Municipal bonds typically provide the following benefits to investors:
Regular stream of income
Interest on municipal bonds is usually paid semiannually. Unless a municipal bond is called before its maturity or defaults (read below for more information on default rates), investors should expect to be paid the interest earned from their municipal bonds on a semi-annual basis until maturity. This means a very predictable stream of income that investors can count on in or prior to retirement.
Safety of Principal
Investors have historically viewed municipal bonds as safe investments because their default rate has historically been less than 1%*. The reason for this low historical rate of default is that many municipal bonds are backed by the unlimited taxing power of the local government issuing them. Such bonds are referred to as a “General Obligation Bond” (or “GO”), and are backed by the full faith, credit and taxing power (i.e. income, property, sales, and vehicle taxes, tolls, special levies, etc.) of an issuer** to pay back the principal and interest owed to bondholders. General Obligation Bonds thus offer a measure of safety to bondholders because unlike corporations, local governments rarely cease to exist and dissolve altogether. As long as they exist, municipalities should be able to generate tax revenue sufficient to meet their obligations to bondholders.
Income is federally tax-free, and can be free of State and local taxes
All municipal bonds pay interest that is exempt from federal income taxes. Depending on the place of issue and place of residence of individual investors, interest on municipal bonds can also be exempt from State and local taxes. As a general rule, the higher the income tax bracket, the more investors benefit from tax-free municipal bonds.
Holders of municipal bonds can sell their bonds in the secondary market through one of the many banks and securities dealer firms which are registered to buy and sell municipal securities. Municipal bonds are sold in the over-the-counter market instead of an organized exchange. If you sell your bonds prior to maturity, you will receive the current market price, which may be more or less than the original cost.
To get more detailed information about the benefits and risks associated with investing in municipal bonds, please download our free bond guide, or call us at (800) 836-8240 to speak to one of our representatives.
* Fitch Special Report “Default Rates and Recovery Rates on U.S. Municipal Bonds”, January 9, 2007
** Municipal Securities Rule Making Board Website
All investments involve risk, including loss of principal. Past performance does not guarantee future returns. Income from certain Municipal Bonds may be subject to the Federal Alternative Minimum Tax.