Understanding the Municipal Bond Market

Municipal bonds are the debt obligations of states, their political subdivisions and certain agencies and authorities. The municipal bond market is one of our nation’s most remarkable financial institutions, providing a mechanism whereby more than 50,000 state and local government units can raise money for public purposes such as water and sewer systems, schools, highways and public buildings.

Under present federal income tax law, the interest income from municipal bonds is exempt from federal income taxes.* In most states, interest income received from bonds issued by governmental units within the investor’s own state is also exempt from state and local income taxes (see table). Interest income from bonds issued by U.S. territories and possessions is exempt from federal, state and local income taxes in all 50 states as well.

In addition to offering tax advantages, municipal bonds have historically low default rates. In the past 50 years, less than one percent of the hundreds of thousands of municipal bonds issued have gone into default.

Individual ownership of municipal bonds has grown from approximately $130 billion in 1980 to $978 billion at the end of 2009.

For more detailed information on municipal securities, you may want to ask your account representative for a copy of An Investor’s Guide to Municipal Bonds, available from the Securities Industry and Financial Markets Association.