High-Yield Municipal Bonds Offer 10% Tax-Equivalent Returns
Some municipal bonds are delivering risk-free yields equivalent to 10% for high earners in high-tax states.
Municipal bonds are drawing fresh attention from high-income investors as their tax-equivalent yields reach levels not commonly associated with government-backed securities. For taxpayers in the highest federal brackets who also live in states with steep income taxes, the after-tax math on certain munis can translate to an effective yield approaching 10%, according to MarketWatch.
The appeal stems from how municipal bond interest is treated under the tax code. Interest earned on most munis is exempt from federal income tax and, in many cases, exempt from state and local taxes for residents of the issuing state. That triple-tax-exempt status dramatically amplifies the real-world return for investors in the top federal bracket of 37%, particularly those in high-tax jurisdictions such as California, New York, or New Jersey.
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For lower-bracket investors, the calculus is less compelling. The tax-equivalent yield comparison only favors munis when the investor's marginal tax rate is high enough to offset the typically lower nominal yields these securities carry relative to taxable alternatives such as corporate bonds or Treasuries. Advisers generally caution that the fit depends heavily on an individual's specific tax situation.
The current environment, shaped by elevated interest rates broadly, has pushed nominal muni yields higher than they have been in years, making the tax-equivalent conversion even more striking for qualified buyers. Investors willing to examine the secondary market or longer-duration issues may find the most pronounced opportunities, though duration risk remains a consideration.
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