Bonds Issued by State and Local Governments Are Called Municipal Debt

Municipal debt is a type of debt issued by state and local governments to finance various projects and activities.

These bonds are used to fund infrastructure projects, such as building roads and bridges, as well as other public services.

The interest rates on municipal debt are typically lower than those on corporate bonds.

Municipal debt is often considered a low-risk investment option for investors.

There are three distinct types of debt that can be issued by local government: General Obligation (GO) debt, Revenue debt, and Special Assessment debt.

General Obligation (GO) debt is secured by the full faith and credit of the local government, with the municipality pledging its tax revenues unconditionally to pay the interest and principal on the debt as it matures.

Revenue debt, on the other hand, is guaranteed by the specific revenues generated by the issuer, such as water districts issuing revenue debt with the revenues from customer water bills guaranteeing the repayment of the debt.

Special Assessment debt is repaid from assessments against those who directly benefit from the project the funds have been used to finance, like road improvements that benefit a specific subset of the population.

The basic types of municipal bonds are General Obligation bonds and Revenue bonds.

General Obligation bonds are usually considered the most secure type of municipal bond, and therefore carry the lowest interest rate, with principal and interest secured by the full faith and credit of the issuer.

Revenue bonds promise to repay principal and interest from a specified stream of future income, such as income generated by a water utility from payments by customers.

Here are the main differences between the types of bonds:

Bonds issued by state and local governments are called municipal bonds, and the debt issuance process for these bonds involves several key steps.

The first step is for the government to determine the amount of money it needs to borrow, which is typically done through a budget process.

The government then determines the type of bond it wants to issue, such as a general obligation bond or a revenue bond.

A general obligation bond is backed by the full faith and credit of the government, meaning it is secured by the government's taxing power.

A revenue bond, on the other hand, is backed by the revenue generated by a specific project or asset, such as a toll road or a water treatment plant.

Once the type of bond is determined, the government prepares a bond resolution, which outlines the terms and conditions of the bond issue.

The bond resolution is then approved by the government's governing body, such as a city council or state legislature.

After approval, the government hires a financial advisor to help structure the bond issue and determine the interest rate.

The financial advisor also helps to determine the credit rating of the bond, which is a measure of the government's creditworthiness.

The bond is then offered for sale to investors, either through a public offering or a private placement.

Investors can purchase the bond directly from the government or through a broker-dealer.

The government uses the proceeds from the bond sale to fund its budget or finance a specific project.

The bond issuer is responsible for making interest payments to investors and repaying the principal amount at maturity.

Bonds issued by state and local governments are typically long-term investments, often with maturities ranging from 5 to 30 years.

These bonds are often used to finance large infrastructure projects, such as building roads, bridges, and public transportation systems.

The interest rates on these bonds are generally lower than those on corporate bonds, because they are considered to be lower-risk investments.

State and local governments have the power to tax their citizens to repay the bonds, which makes them a relatively stable investment option.

The bonds are often issued in denominations of $5,000 or more, making them a more exclusive investment opportunity for individuals and institutions.

Comparing municipal bonds to other types of bonds can be a bit tricky, but it's essential to understand the differences. One way to do this is by looking at the taxable equivalent yield.

The taxable equivalent yield is a concept used to compare municipal and corporate or Treasury bonds, taking into account the tax treatment of the income from each type of security. This is particularly important because the interest rate on a municipal bond can be misleading when compared to a corporate or Treasury bond.

For example, if an investor in the 38% tax bracket is offered a municipal bond with a tax-exempt yield of 1.0%, the municipal bond's taxable equivalent yield is 1.6%. This means it can be fairly compared to yields on taxable investments.

Typically, investors in the highest tax brackets benefit from buying tax-exempt municipal bonds instead of taxable corporate bonds. On the other hand, those in the lowest tax brackets may be better off buying corporate bonds and paying the taxes.

Investors in higher tax brackets can even use a strategy called municipal bond arbitrage to arbitrage municipal bonds against corporate bonds. This involves buying municipal bonds and selling corporate bonds to take advantage of the tax benefits.

Government debt is often issued by state and local governments to fund various projects and infrastructure. General obligation bonds are backed by the issuer's "full faith and credit", including its power to tax.

There are three main types of debt issued by local governments: General Obligation (GO) debt, Revenue debt, and Special Assessment debt. GO debt is secured by the full faith and credit of the local government, while Revenue debt is guaranteed by specific revenues generated by the issuer.

Revenue debt can be repaid from various sources, such as customer water bills, and is often used to finance projects that generate their own revenue, like toll roads. Special Assessment debt is repaid from assessments against those who directly benefit from the project.

Here are the three main types of debt issued by local governments:

State and Local Government Debt is a significant aspect of government debt. It refers to the debt incurred by state and local governments to finance various projects and activities.

In the United States, state and local governments issue various types of bonds to raise funds. One type is General Obligation (GO) bonds, which are backed by the issuer's "full faith and credit", including its power to tax. This means that GO bonds are typically secured by a pledge of the taxing district's property tax authority.

Revenue bonds, on the other hand, are secured by future revenue streams, such as dedicated sales taxes or tolls and other user charges generated by the project being financed. In 2018, roughly 58 percent of state and local issuances were revenue bonds, 36 percent were GO bonds, and 6 percent were private placements.

Municipal bonds, also known as "munis", are a type of bond issued by local governments to fund infrastructure, libraries, or parks. These bonds often carry tax advantages and exemptions for investors.

Here are some key types of municipal bonds:

It's worth noting that GO bonds typically require voter approval and are subject to limits on total debt outstanding, whereas revenue bonds and other types of bonds are not. This can affect the risk and return associated with investing in these types of bonds.

Refunding is a procedure where an issuer refinances an outstanding bond issue by issuing new bonds, often to lower interest rates and reduce payment amounts on older, more expensive debt.

The Department of Commerce provides updates on refunding activity through the Bond Users Clearinghouse. This information can be helpful for understanding the current state of refunding in government debt.

Refunding bonds can be issued if interest rates have fallen since the bonds were originally issued, or if the bonds have restrictive covenants that a local government wishes to remove or modify. The proceeds of the new bonds are either deposited in escrow to pay the debt service on the outstanding obligations, when due, or they are used to immediately retire the outstanding obligations.

Advance refunding refers to the practice of issuing refunding bonds more than 90 days before the date on which the refunded bonds may be called and redeemed. This can produce a savings by paying off older high interest rate debt with lower interest rate debt, even with a long escrow.

Under changes made to the federal tax code effective January 1, 2018, bonds issued for the purpose of advance refunding outstanding tax-exempt bonds may no longer be done on a tax-exempt basis.

Default risk is a measure of the possibility that the issuer will fail to make all interest and principal payments, on time and in full.

Historical default rates have been lower in the municipal sector than in the corporate market, which is a reassuring fact for investors.

Sharp drops in property valuations, like the 2009 mortgage crisis, can strain state and local finances, potentially creating municipal defaults.

Municipal bond insurance can greatly reduce default risk to the investor by promising to pay interest and principal if the issuer does not do so.

Credit ratings are generally the starting point buyers use when deciding how much to pay for a municipal bond, and they are assigned by rating agencies that evaluate various risks, including default risk.

The city of Harrisburg, PA, faced a potential municipal bankruptcy due to skipped bond payments on a municipal waste to energy incinerator, highlighting the importance of considering default risk when investing in municipal bonds.

Financing with municipal bonds offers several financial benefits. One of the most significant advantages is the substantial cost savings. In the last decade, municipal bond-financed projects cost $495 billion less than if they had been financed with taxable debts.

Lower borrowing costs for bond-financed projects can also provide a financial boost. This can lead to more efficient use of public funds.

Municipal bonds can provide a cheaper alternative to taxable debts, allowing governments to allocate funds more effectively.

Bonds issued by state and local governments come in different types, each with its own unique characteristics.

General obligation bonds are backed by the issuer's full faith and credit, including its power to tax. They typically require voter approval and are subject to limits on total debt outstanding.

In contrast, revenue bonds are not subject to these requirements or limits. They are secured by future revenue streams, such as dedicated sales taxes or tolls and other user charges generated by the project being financed.

Revenue bonds accounted for roughly 58 percent of state and local issuances in 2018.

There's also special assessment debt, which is repaid from assessments against those who directly benefit from the project the funds have been used to finance.

Here are the main types of debt: