Municipal bonds, cont.

I suppose I should restrict my postings to topics about which I’m an expert, but if I did that, I wouldn’t be posting very often.  I certainly am not an expert on financial matters.  To me a good investment is a passbook savings account.  

One of my alert readers, who is also a financial advisor, had some comments on the last posting on municipal bonds, where I basically said--let’s tax the interest.  He sent me a long email, and I thought it was worth reprinting.  He did ask that his name not be used.  Here’s what he said, slightly edited:

As much as I usually agree with your posts, this one is way off base.  

While it's true that munis benefit higher net worth investors, I believe that they actually help increase the quality of life for people of average means more.  Let me explain.  When I set up a portfolio for someone when they are retired there are a number of factors to be taken into account.  Not least among them is how their income will effect their eligibility for government programs.  If people have too much investment income in addition to social security and their pensions, then they are usually denied the programs that most seniors qualify for.  This generally serves to decrease their real income by thousands of dollars per year while someone that made only a little less enjoys all of the government programs.  The only real tool at people's disposal to combat that is muni bonds.  It serves to cut their investment income to nothing while also decreasing their actual return by 50-75%.  Its not as if muni bonds are paying some great interest rate...they're not.  

To your point on Munis costing $10,000 to purchase.  That is also incorrect.  The only "people" that buy individual munis are institutional investors such as trust departments and pension funds.  The average investor will tend to buy a muni bond fund.  This gives them diversification and also keeps costs down since the fund does all of the trading for them and allows them to avoid costly commission charges while still being paid a monthly income.  The minimum investment amount for a muni bond fund is $250 for IRA/401k money and $1000 for regular money.  

That being said I only use them for most clients if they have a tax issues since the return stinks.  For most people it’s more beneficial to make 6-7% on a taxable investment rather than 1-2% on munis.

I'm sure you have heard all about the effects that munis have on municipalities and school districts, etc.  

If your touch the tax savings on munis, then borrowing rates for local government entities will likely at least double which will cause large tax increases and municipal bankruptcies which we can't afford.

My only comment is that I didn’t think that municipal bonds would affect municipal bankruptcies, since they are not issued for day-to-day municipal budgets.  I’m not even sure about that.

In the meantime, the Mayan calendar was wrong.  Or did I get the date wrong, and the world ends tomorrow?  Wait and see.