Should you have Muni Bonds In Your Investment Basket?

Do you like paying tax on all your income?  Interest earned from Muni Bonds is 100% tax free at the Federal Level and Nevada too since we don’t have a state income tax.  But if you live in California, to get 100% tax free in California, your Muni Bonds have to be California bonds.  Don’t you love living in Nevada?  You can buy anybody’s bonds instead of just California’s.

If you are in a higher tax bracket, muni bonds can really make your day!  They pay a slightly smaller interest rate, but high tax rate folks can benefit from the tax savings.  Example:  If you are in the 25% tax bracket, and your muni bond is yielding 3%.  You would have to earn more than 4% on a taxable bond to equal the tax-free muni bond.

But wait there’s more!  The interest from muni bonds does NOT increase your adjusted gross income (AGI), which can make you eligible for more tax AGI sensitive breaks.

AND, the 3.8% Obamacare Net Investment Tax is not computed on earnings from muni bonds.  If you are subject to that, you can consider muni bond’s tax-free status as an additional reason to buy some.

If you purchase a muni bond for $10,500 and it’s stated maturity is $10,000, you write off the $500 “premium” as a reduction in the muni bond interest income.

If you sell your $10,000 face value bond for $11,000, the $1,000 difference is reported as capital gain income.

Bad news.  The muni-bond interest is counted when computing taxability of Social Security.  Boo Congress.  You are already sticking it to seniors, why do this?

Warning!  Not all muni bonds are equal.  It’s worth checking out the ratings on bonds before you buy.  Example, Nevada road bonds are rated very high, certain California municipal bonds are considered junk, like Vallejo.

There is a kind of bond called “Private Activity” bonds (usually issued to build sports facilities) that are subject to Alternative Minimum Tax (ATM).  In the current tax climate, most folks are no longer subject to ATM, but the current law is sunsetting soon and ATM is going to come roaring back to bite a lot of folks.  Keep this in mind when looking for bonds to buy.  “Private Activity” bonds usually pay a slightly higher interest rate.  Now you know why.

Have you heard?  Proverbs 15:6 says, “In the house of the righteous there is much treasure, but trouble befalls the income of the wicked.”