Some issuers will come out with bonds that do not pay interest. These are zero coupon muni bonds. They are issued at a deep discount and pay par at maturity. Basically, you are earning the discount difference and that is calculated to a yield to maturity.
Since no interest is paid, there is not reinvestment risk - but there si also no current income.
Zero coupon municipal securities are most attractive when interest rates are low, since coupon rates on existing bonds will be lower anyway and professional investors do not have to reinvest the proceeds into something lower.
http://www.aitraining.com/zerocoupon.htm - Learn more or post questions and comments here.
Tuesday, July 31, 2007
Tax Free Yield
The main benefit in investing in municipal bonds is gaining the tax free yield. The attractiveness of this rate of return will depend on the nominal yield and the tax bracket of the investor.
The higher the bracket - the higher the tax free or equivalent yield. You calculate the after tax return by taking the stated rate, coupon rate or given yield if issued at par and divide that by 100 - the bracket of the investor.
Example
A 6% muni bond at par with an investor in the 28% tax bracket would calculate as follows: 6 divided by 72 (100-28) = 8.33%.
If an investor was looking to compare this investment against a taxable bond like a corporate bond - the taxable bond would have to yield over 8.33% for this investor to be interested in it.
The tax free yield formula is the same if it was a G.O. Bond or a revenue bond. It is based on the federal ordinary income bracket and the stated yield.
http://www.aitraining.com/municipalbond.htm
The higher the bracket - the higher the tax free or equivalent yield. You calculate the after tax return by taking the stated rate, coupon rate or given yield if issued at par and divide that by 100 - the bracket of the investor.
Example
A 6% muni bond at par with an investor in the 28% tax bracket would calculate as follows: 6 divided by 72 (100-28) = 8.33%.
If an investor was looking to compare this investment against a taxable bond like a corporate bond - the taxable bond would have to yield over 8.33% for this investor to be interested in it.
The tax free yield formula is the same if it was a G.O. Bond or a revenue bond. It is based on the federal ordinary income bracket and the stated yield.
http://www.aitraining.com/municipalbond.htm
Municipal Bond Basics
A muni bond is a public debt issue by a state, city, local or other municipality that has issued a bond for the purpose of rasing money.
Investors gain a valuable benefit as the interest earned on municipal securities is federally tax free. They are subject to state and local tax. Many investors can avoid all interest taxation if they purchase a bond issued in their primary home state.
There are 2 primary types: Revenue and General Obligation Bonds (GO). A revenue issue is backed by the municipalities collections - such as fees and tolls to support the issue and pay back the bondholders. Bridges and other transportation issues tend to be at least partly revenue backed.
General Obligation Bonds are backed by the taxing power of the municipal authority.
There are tens of thousands of issues currently in the market for investors to buy. Many of the bonds are callable - which means the issuer can redeem the investment early based on a pre-set date and price. Each Muni is rated based on it's credit quality. AAA is the highest rating for a municipal issue - as it is for all other debt securities.
http://www.aitraining.com/municipalbond.htm
Investors gain a valuable benefit as the interest earned on municipal securities is federally tax free. They are subject to state and local tax. Many investors can avoid all interest taxation if they purchase a bond issued in their primary home state.
There are 2 primary types: Revenue and General Obligation Bonds (GO). A revenue issue is backed by the municipalities collections - such as fees and tolls to support the issue and pay back the bondholders. Bridges and other transportation issues tend to be at least partly revenue backed.
General Obligation Bonds are backed by the taxing power of the municipal authority.
There are tens of thousands of issues currently in the market for investors to buy. Many of the bonds are callable - which means the issuer can redeem the investment early based on a pre-set date and price. Each Muni is rated based on it's credit quality. AAA is the highest rating for a municipal issue - as it is for all other debt securities.
http://www.aitraining.com/municipalbond.htm
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