Municipal bond
Fixed IncomeDefinition
An IOU issued by a state, city, or local government to fund things like schools, highways, or water systems. The special feature: the interest you earn is usually exempt from federal income tax, and often from state tax if you live in the state that issued the bond.
Because of the tax break, munis often give you more money in your pocket than a Treasury bond paying a higher headline rate. Two main flavors: general obligation bonds (backed by the government's taxing power) and revenue bonds (backed by a specific project's income, like a toll road).
Because of the tax break, munis often give you more money in your pocket than a Treasury bond paying a higher headline rate. Two main flavors: general obligation bonds (backed by the government's taxing power) and revenue bonds (backed by a specific project's income, like a toll road).
Formula
Tax-equivalent yield = Muni yield divided by (1 minus your marginal tax rate)
Example
A muni paying 4% is tax-free. For someone in the 37% top federal tax bracket, that is equivalent to earning 6.35% on a regular taxable Treasury bond. That is why high-income earners load up on munis.
Related tool
Open the fixedincome tool on Arsenal.finance →