Taxing Muni-Bond Interest

[Hiredgun]

Anyone else concerned that, according to a Wall Street Journal article yesterday, that Boehner and Obama seem to be reaching agreement on removing some of the tax exemption protection from municipal bonds?

This will mean higher borrowing costs for cities, municipalities and states. The people who will suffer will be at the lower end of the income scale as the services that will be cut will start with parks, libraries, homeless shelters, state parks, etc.

Also, States will likely look to compensate for the loss of revenue through increased property taxes. I can't believe either party thinks this is a good idea? Yeah, let's raise the cost of borrowing for counties, cities and states that are hanging by a string!

Your thoughts?

 

[REWahoo]

My thoughts are this thread will run off the rails into the quagmire of partisan politics and be closed - in less than [-]10[/-] 20 posts.

 

[MichaelB]

Love that smell of bacon in the morning

 

[obgyn65]

I think it makes sense to increase property taxes. It's either that or cities go bankrupt, with unintended consequences. I choose the easier option.

Anyone else concerned that, according to a Wall Street Journal article yesterday, that Boehner and Obama seem to be reaching agreement on removing some of the tax exemption protection from municipal bonds?

Also, States will likely look to compensate for the loss of revenue through increased property taxes. I can't believe either party thinks this is a good idea? Yeah, let's raise the cost of borrowing for counties, cities and states that are hanging by a string!

Your thoughts?

 

[obgyn65]

Four posts already

My thoughts are this thread will run off the rails into the quagmire of partisan politics and be closed - in less than 10 posts.

 

[marc515]

I saw a program about 10+ years ago which showed various millionaires throughout the US who didn't pay "Any" federal taxes due to their tax free investments. One guy had $5 million a year income and the only taxes he paid were property taxes and sales taxes.

While tax free Muni's may have been a good idea way back when, I do agree it needs to be looked at again. Not only are these investments allowing them to pay "0" federal taxes, many are also paying "0" state taxes, which means the state has less to dole out to the municipalities.

These tax free investments benefit those who have wealth more than the little guy, who really cannot afford to invest in them. I read that Suzie Orman has a good percentage of her wealth($25M) invested in tax free bonds.

Here we are at the Fiscal Cliff trying to raise tax rates on the wealthy, while we have many paying "0" taxes due to tax free investments; go figure.

Municipalities will just have to find ways to control their spending.

 

[braumeister]

Yeah, that Obama-Boehner team again. They're always in cahoots to further their own secret agenda, aren't they?

 

[brewer12345]

Yeah, that Obama-Boehner team again. They're always in cahoots to further their own secret agenda, aren't they?

Don't forget the involvement of the UN...

 

[pb4uski]

Anyone else concerned that, according to a Wall Street Journal article yesterday, that Boehner and Obama seem to be reaching agreement on removing some of the tax exemption protection from municipal bonds?

No, in fact I favor it because it would make income taxes more progressive since the wealthy are the principal beneficiaries of this tax benefit. Making muni interest tax-free was probably not a great idea to begin with and it would make the code simpler once it is fully implemented.

BTW, the proposal that I heard of would only be prospectively for newly issued debt, existing munis would still be tax-free so during the phase in period it would actually make things more complicated because some muni interest would be tax free and other muni interest would be taxable.

While it would constrain municipalities in the future as you suggest, that may not be bad. They should only be borrowing for capital projects to begin with so it shouldn't affect significantly affect municipal services currently provided unless they are foolishly borrowing to fund current fund operations.

 

[Texas Proud]

I did not see the article.... so I am posting a bit 'blind' on this.... but want to help get it over 20 posts..


I think state and local gvmts have misused the tax exemption... so if they are planning on removing it for some of the misuse out there I am all for it...

Why should a major league football or baseball (or any sport) team get funding for their stadium with tax exempt bonds What about business development There are a lot of abuses IMO and narrowing it to REAL gvmt spending is a good thing...

So, your example of libraries, schools and parks should get the tax break, other spending should not...

 

[ERD50]

Anyone else concerned that, according to a Wall Street Journal article yesterday, that Boehner and Obama seem to be reaching agreement on removing some of the tax exemption protection from municipal bonds?

This will mean higher borrowing costs for cities, municipalities and states.

...

Your thoughts?

I saw a program about 10+ years ago which showed various millionaires throughout the US who didn't pay "Any" federal taxes due to their tax free investments. One guy had $5 million a year income and the only taxes he paid were property taxes and sales taxes.

...

These tax free investments benefit those who have wealth more than the little guy, who really cannot afford to invest in them. ...

First (to others), I'm not sure why a thread about taxes on investments that could affect retirement income should be labeled 'pig bait'. Seems like a reasonable topic for discussion to me.

As far as higher borrowing costs, seems like a zero-sum gain to me. They will be taking in more in taxes - that will offset (to some extent) the higher rates they will pay. I guess it's tough to say if the people who buy munis are optimizing this though, I suspect many buy them even though they don't get enough of a tax break to offset the reduced rate, others in high tax brackets might benefit disproportionately. Not sure how it averages out.

As far as those guys paying zero taxes, isn't that what the AMT is for? I thought it captured muni income after some point?

But it is another example of our crazy tax code. Rates are progressive, but then exemptions like this benefit the higher tax brackets more, offsetting that progressiveness. What a mish-mash!

-ERD50

 

[REWahoo]

First (to others), I'm not sure why a thread about taxes on investments that could affect retirement income should be labeled 'pig bait'. Seems like a reasonable topic for discussion to me.

Many 'pig bait' topics are fine for reasonable discussion. Unfortunately there are those who lack that capability, thus the need for moderators.

 

[ERD50]

I think it makes sense to increase property taxes. It's either that or cities go bankrupt, with unintended consequences. I choose the easier option.

Well, just so this thread can get past 20 .... why not start another thread on that topic? After all, this thread is about munis, not property tax.

It would be interesting to make some calculations to estimate just how much property taxes would need to be raised to eliminate deficit spending. Since that is your option, it appears to be binary to you.

And then, some guesses as to what affect that would have on people's choices of where to live, how many might be dislocated from their homes (they may just be making the payment now), how much less they would have to spend in other areas of the economy. And don't forget that this will affect rents too - property owners will pass those costs on, so low income people will be affected also.

But please save the comments/replies for another thread - I'd like to see a discussion of muni rates play out, we might learn something.

-ERD50

 

[audreyh1]

Hmmmmm - I think this means that even Suzzie Orman might have to start paying federal income taxes.... [Well, OK, she must draw a salary, so she pays taxes on that...]

Looks like the mortgage interest deduction is on the table too....

 

[MichaelB]

First (to others), I'm not sure why a thread about taxes on investments that could affect retirement income should be labeled 'pig bait'. Seems like a reasonable topic for discussion to me.

Well, the original post did bring up partisan views and political leaders. That's a discussion we don't need. A thread about what we think is fine, as is how it impacts us.

Seems to me elimination of muni interest tax exemption makes muni borrowing costs higher, they would need to offset buy raising taxes elsewhere, most only have property taxes as their primary income stream.

BTW, the proposal that I heard of would only be prospectively for newly issued debt, existing munis would still be tax-free so during the phase in period it would actually make things more complicated because some muni interest would be tax free and other muni interest would be taxable.

.

Interest on some muni debt is already not tax-exempt, so this may not be a big issue. If the exemption were to disappear it would probably make current muni debt more valuable.

 

[Nodak]

Don't forget the involvement of the UN...

and the Illuminati and Bilderbergs

 

[scrabbler1]

As far as those guys paying zero taxes, isn't that what the AMT is for? I thought it captured muni income after some point?

-ERD50

The AMT captures some of the tax-exempt interest generated by muni bond funds. On the statement of tax-exempt income, there is a rule about "certain specified private activity bonds" whose income is subject to the AMT. While I had seen this in those statements I had received for many years, it wasn't until 2008 when it actually mattered to me because I got hit with the AMT and had to add back some of that previously tax-exempt interest.

As to whether or not to treat muni bond interest as taxable, perhaps there could be a sliding scale which makes some of it taxable for higher income earners in a manner similar to how more SS benefits are taxable for higher income earners based on an aggregate income. Not sure how it would play out or even if it would be workable. Would a high income earner who has a few thousand dollars of income have his muni bond fund interest taxed more versus an equally overall high income earner who has hundreds of thousands of dollars of muni bond fund interest? I don't know.

 

[Rambler]

I'm piping in as someone who hase a good bit of tax free muni bonds. Most of what I have is fed, state, and AMT tax free. Yes, I bought them for the tax deal. If they had been taxable, I would not have bought them at the prices/yields that I did. The yields would have had to be much higher to entice me should they have been taxable. At this point, to make them taxable MAY (probably) create a situation that would put them in breach of covenants. If that were to happen, the entire bond would be immediately due and payable to the bond holders. So, for existing bonds that are free of all taxes, I do not see that happening. This would create a crisis situation in probably every state/municipality. When you buy or sell bonds (or any other loan) there are covenants that must be strictly followed by the seller/originator, and the buyer does so believing that the seller will abide by these covenants. The interest rate and the taxable or tax free status are key parts of those covenants that serve to either entice or turn away potential buyers.

When you buy bonds, you simply have to be aware of the situations in which the interest becomes taxable. For example, I typically do not buy bonds that are subject to AMT. If I do, I do it knowing full well what it means.

Now, going forward, I do agree with other posters who ask why a football stadium for a major league team should have public bonds that are not taxable. Granted, I am not a big sports fan, but I do think that facilities such as this should be paid for by the users, not by the public (I.e., the taxpayer who funds the "tax-free" status of a muni bond of this nature). A stadium should be able to operate as a business, not as a government funded yet privately owned facility. If it cannot do do at current rates, then it needs to raise the rates on the users, and not stick it to the taxpayer. Further, if new issue muni bonds become taxable, that is quite fine with me, because they will be sold at market prices, and I can decide to buy, or not to buy, based on their return in my overall portfolio. If I choose to buy a bond of that nature, I do so full well knowing that I will have taxes to pay on it, and will be happy to paid said taxes.

I like my munis, but please do not consider me nor anyone else a tax avoider for buying them. They are simply investment options with the tax already built in, in the form of interest rates that are lower than equivalent corporate bonds, CDs, etc.

My two cents, or whatever it is worth.

R

 

[Hiredgun]

Responding to MichaelB for accuracy sake, my original post did NOT espouse political partisan views, which you incorrectly characterize.

"Partisan: an adherent or supporter of a person, group, party, or cause, especially a person who shows a biased, emotional allegiance"

My original post merely references an article where the President and the Speaker are in apparent agreement on a major change to the tax code. It in no way references a biased or emotional allegiance to a political view. The plain language of my post references a tax issue, not a political position. Moreover, I have a significant interest in the topic as I have over 500k in Municipal Bonds and am worried at the practical implications to the value of those bonds if the tax benefits are removed. I would appreciate it if you would not mischaracterize the plain language of my post. Thanks

 

[sheehs1]

I agree with Rambler. The tax on muni's is typically lower than for other bonds such as corporates. I've been holding muni bond funds for a while and they have all done quite well the last 2 years. I strayed from the old mantra of buying individual bonds because I felt a bond manager could do a better job than I, since I have to buy on the secondary market.
There was/is a reason they are tax exempt and that was to encourage people to buy them. Without that caveat, I'm afraid municipalities will have a hard time generating cash unless they increase yields to tax equivalent yields. I don't see that happening...as it will increase the carry cost for the municipality. Just as I don't see the Fed increasing interest rates any time soon. The U.S. has to pay the interest on it's debt. Increase in rates and we are really bankrupt.
It seems all we know or learned about finance, taxes and retirement planning is being tossed into the air.

I suppose they will revisit the tax status of MLP's once again as well.

 

[youbet]

They should only be borrowing for capital projects to begin with so it shouldn't affect significantly affect municipal services currently provided unless they are foolishly borrowing to fund current fund operations.

I take it you're referring to Illinois, land of gov't taxing and spending mismanagement........ We borrow today to have cash for graft and payola tomorrow......

 

[GrayHare]

Unless tax increases and spending cuts are done equally across the board, every proposal is going to meet with NIMBYism.

 

[samclem]

At this point, to make them taxable MAY (probably) create a situation that would put them in breach of covenants. If that were to happen, the entire bond would be immediately due and payable to the bond holders. So, for existing bonds that are free of all taxes, I do not see that happening. This would create a crisis situation in probably every state/municipality. When you buy or sell bonds (or any other loan) there are covenants that must be strictly followed by the seller/originator, and the buyer does so believing that the seller will abide by these covenants. The interest rate and the taxable or tax free status are key parts of those covenants that serve to either entice or turn away potential buyers.

Hmm. The bonds themselves have covenants or provisions that make them due and payable if the tax rules change and they become subject to federal taxation? I'd never heard that, but I'm sure it's possible. If so, I wonder if the municipalities take out insurance to cover this possibility.

It would seem that muni bond holders are facing the same fate all of us face whenever the rules are changed. Folks who own rental properties lose when Congress decides every American should qualify for a mortgage.

Anyway, I'd bet any change to the treatment of muni interest will be phased in over several years, or be subject to some sort of cap. Their prices would still plummet, but holders would have a few years to sell them, maybe to investors who could still make use of them below any cap.

Putting the issue of fairness to current bondholders aside for the moment--Should federal taxpayers be subsidizing the creation of municipal debt?

I am surprised to hear this proposal bandied about, as municipalities and investors will be screaming.

 

[JPatrick]

Let's not label munis as a haven for the ultra rich only.
I've been using MUB happily as a subsitute for lame MM's and CD's. By doing so I'm exempting a fair amount of income from taxes in my world, which features a lack of meaningful traditional deductions and a high (er) tax rate than I previously enjoyed.
Like any fluctuating investment, you've got to be careful picking an entry point into MUB, and of course, if the guvment tinkers with its status--it's game over.

 

[Texas Proud]

Just thought I would throw in the proposal...

"The plan would curb the value of the tax break to the benefit it affords to earners in the 28 percent bracket. The exemption effectively provides a 35 percent tax break for top earners because that’s what they pay on other income. For couples earning less than $250,000, or individuals below $200,000 for single taxpayers, there would be no change, said Meg Reilly, a spokeswoman for the White House Office of Management and Budget."



So, from what I am reading, you still would get a tax break, but only up to 28% rate... so, if you are in the 35% tax rate you will pay 7% tax on the interest.....