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Every toll you pay helps cover somebody’s bond interest.
So does your water bill, and a slice of your property taxes. States, cities, and towns borrow to build roads, water systems, schools, and hospitals, and they pay that money back to the investors who own their municipal bonds, or “munis” for short.
Most of that interest is free from federal income tax, and often from state tax too if the bond comes from your own state. And right now, those bonds are paying the most they have in about 15 years.
Last week, the benchmark 30-year muni yield hit 5.07%, and the 10-year hit 4.01%, both the highest since at least 2011.
If you’re in the top bracket, you pay 37% federal tax on most interest, plus the 3.8% net investment income tax. Munis skip both.
So that 5.07% tax-free yield works like an 8.6% yield on a taxable bond. Even the 4.01% 10-year works out to about 6.8%.
Put another way, $100,000 in that 30-year muni pays you about $5,070 a year, and you keep all of it. A 30-year Treasury paying around 5.5% would leave you with roughly $3,250 after those same federal taxes.
High yields usually come with high risk, but munis have been the exception.
From 1970 through 2020, Moody’s-rated municipal bonds had a 5-year default rate of just 0.08%. Over the same stretch, global corporate bonds defaulted at 6.89%.
Cities and states can raise taxes and fees to cover their debts, and many of their bonds are backed by essential services people pay for… no matter what the economy does.
Right now, a 30-year muni pays over a full percentage point more than a 10-year muni, a big reward for locking in your income longer.
If rates eventually come down, those long bonds also rise in price, so you’d have a gain on top of the income you locked in.
The simplest route is a low-cost muni ETF that holds thousands of bonds in one ticker. If you want to plan around a specific date, target-maturity muni ETFs hold bonds that all come due in the same year and then return your principal, a lot like owning one big bond.
You can also buy individual bonds through your broker’s bond desk. Look up each one on EMMA first, the free site run by the Municipal Securities Rulemaking Board, to check its yield, credit rating, and call date.
And while these are generally safe, here’s what could go wrong…
If rates keep climbing, bond prices fall, and long bonds fall the most. The only way to fully avoid that is to hold them to maturity.
Many munis can also be called early, which caps your upside if rates drop. And they don’t belong in an IRA or 401(k), where you’re already not paying tax on the income, so the tax break goes to waste.
In The War Room, I’ve already put members into a tax-free muni fund trading below the value of the bonds it owns, with a two-step plan to buy the rest if the 10-year Treasury climbs above 5.5%.
The oldest bond still paying interest is a local government bond, just like a muni. In 1648, a Dutch water board issued it to pay for dike repairs along the Lek River, and Yale University owns one today.
It’s written on goatskin, it never matures, and the water authority still honors it 378 years later. There’s one catch: you have to collect the interest in person. When a Yale curator traveled to the Netherlands in 2015 to collect 12 years’ worth, it came to about $153.
