Investors have long turned to municipal bonds for their tax-exempt status and security, but recent headlines have called this fixed-income asset class into question. This summer, Detroit became the latest city — not to mention the largest one — to file for Chapter 9 bankruptcy, potentially subjecting its bondholders to losses. Earlier this spring, in his budget proposal for fiscal year 2014, President Obama recommended capping tax-exempt interest from munis at 28 percent for the top 2 percent of earners.
Despite recent concerns, there is plenty of good news for municipal bond investors, says Dan Heckman, Senior Fixed Income Strategist for The Private Client Reserve. “Because of their tax-exempt status and current high yields, we believe municipal bonds still can be extremely attractive when placed in a balanced portfolio,” he says.
Here, Heckman addresses potential risks of municipal bonds and their tax and yield benefits.
DO YOU EXPECT MUNICIPAL BONDS TO RETAIN THEIR TAX BENEFITS IN THE FUTURE?
Despite proposals to cap the amount of tax-exempt interest an investor could earn, we are very optimistic that municipal bonds’ tax-exempt status will remain in place. There is strong opposition from issuers and municipalities, because they would have to issue bonds at higher yields to attract investors if they weren’t able to pass on the favored tax-exempt status. A coalition of city and county leaders, including the U.S. Conference of Mayors, recently estimated that interest costs would rise more than $18 billion for municipalities if a cap were placed on tax-exempt interest.