The Death Of Munis Is Greatly Exaggerated
Will Hepburn, President of Hepburn Capital Management, shares his outlook on municipal bonds. The views expressed here are his own.
A high level of tax exempt interest from municipal bonds has attracted the eye of investors this past year. Unfortunately it has also attracted the eye of revenue hungry politicians in Washington, DC.
Bond prices were driven down sharply in December by talk about the possibility of Congress beginning to tax the interest on municipal bonds as part of the “Fiscal Cliff” negotiations. This creates a great buying opportunity for munis if you think a new tax on them won’t really happen.
The talk of taxing municipal bonds implies that they are the beneficiaries of some loophole in the tax laws which ought to be closed and that is not really true. Muni bonds are exempt from taxation due to a constitutional provision, not due to a tax law or loophole.
States rights vs. federal powers was one of the fiercest points of discussion as our Constitution was being hammered out back in the 1780s. The compromise that was reached back then was that the federal government shall not be able to interfere with the business of the states and the states shall not be able to interfere with the business of the feds. Taxation and regulation are the two tools that governments use, so accordingly, the states and the federal government are prohibited from taxing each other.
So, any attempt by the federal government to pass a law calling for taxation of the interest paid on municipal bonds would immediately have to face a constitutional challenge, and assuming it were to survive scrutiny by the Supreme Court, it would also open the door for state and local governments to assess property taxes on federal properties such as military bases, Post Offices and National Forests, none of which pay taxes now. The issue is a two edged sword.
If Congress is foolish enough to thumb their nose at the Constitution so they can raise taxes, they will just end up losing even more money to local taxation. So, in my opinion, it is not likely to happen.
So, don’t get too concerned about the talk of taxing muni bonds. This is just the rhetoric of the class warfare the DC politicians like so much. But as a practical matter it won’t go anywhere.
If anything, this makes municipal bonds a good buy right now. When the rest of the world realizes that muni tax status isn’t going to change, the pace of buying tax exempt municipals should increase.
Will Hepburn is a private investment manager who specializes in active investment strategies. He is President of Hepburn Capital Management, LLC, a Registered Investment Advisor, and a Past-President of NAAIM, the National Association of Active Investment Managers (www.NAAIM.org) He may be reached by emailing Will@HepburnCapital.com, by calling (928) 778-4000, by writing to 2069 Willow Creek Road in Prescott, AZ 86301, or by visiting our web site at www.HepburnCapital.com
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