Municipal Bonds.
In plain English
Municipal bonds, often called munis, are bonds issued by states, cities, counties, and other local government bodies to raise money for things like schools, roads, and water systems. In exchange for lending your money, you receive interest payments, and that interest is usually exempt from federal income tax. It can also be free from state and local tax if you live where the bond was issued. Because of the tax break, munis often pay a lower stated interest rate than taxable bonds, yet can still come out ahead after taxes.
01Why it matters
If you are in a higher tax bracket, the tax-free interest from munis can leave more money in your pocket than a taxable bond paying a higher rate, which directly affects your after-tax income.
02The math, step by step
Suppose a muni pays 4 percent tax-free and a corporate bond pays 5 percent taxable. If you are in a 32 percent federal tax bracket, the 5 percent corporate bond is worth about 3.4 percent after federal tax (5 percent times 0.68). The 4 percent tax-free muni beats it. For someone in a low bracket, though, the taxable bond might win, so the comparison depends on your own tax rate.
03What this is NOT
Munis are NOT always entirely tax-free. The interest is usually free from federal tax, but some munis are taxable, certain ones can trigger the alternative minimum tax, and any profit from selling a muni for more than you paid is still a taxable capital gain.
04Receipts
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