Tax Exemption on Municipal Bonds

Content: 

President's proposed FY 2016 budget caps municipal bond interest

Tax-exempt municipal bonds are once again being targeted for elimination or capping the percentage on the tax deduction.

The President's Fiscal Year 2016 Budget Proposal recently submitted to Congress, proposed capping the tax deduction for municipal bond interest at 28 percent.

Under current law, the owners of municipal bonds are not required to pay federal income tax on the interest income they receive from the bonds. Municipalities benefit from this tax exemption through substantial savings on the interest cost of borrowed money.

Over the last decade, municipal bonds have funded more than $1.9 trillion worth of infrastructure construction for schools, airports, affordable housing, water and sewer facilities, roads, and public transits. In 2013 alone, more than 11,000 tax-exempt bonds financed more than $330 billion in infrastructure spending.

In the House, more than 100 members of Congress, including Reps. Phil Roe and Stephen Fincher from Tennessee, have signed on to a bipartisan letter urging House leadership to support the preservation of the tax exemption on municipal bond interest. Both Sens. Bob Corker and Lamar Alexander have indicated they support the tax-exempt status.

The federal tax exemption on municipal bond interest has been in place since the first federal income tax was enacted in 1913 having been maintained through two world wars, the Great Depression and the recent Great Recession, and as a result, state and local governments save, on average, two percentage points on their borrowing to finance investment in public infrastructure.

This exemption has generated trillions of dollars of investment in public infrastructure and has saved taxpayers hundreds of billions in interest costs.

Reducing or eliminating the exemption on municipal bonds would cause investors to demand higher returns on their municipal bond investments to make up for the tax they would have to pay.

The outcome of reducing or eliminating the tax exemption on municipal bond interest would be higher borrowing costs for state and local governments, less investment in infrastructure and fewer jobs.

According to the National League of Cities, the traditional tax exempt status of municipal bonds is now regularly under threat whether it be as a part of a deficit reduction plan, a push for comprehensive tax reform or as an offset for new spending. Municipal bonds are the primary way state and local governments finance the public infrastructure yet several federal proposals have emerged over the last few years, including the President's FY'16 budget proposal, that would modify the tax exemption or eliminate it entirely.

If your representative has signed the letter, thank him. If your representative is not, please urge them to protect municipal bonds in future tax reform and budget efforts.

posted 4/21/2015


Tax-exempt municipal bonds are the primary means by which state and local governments finance critical infrastructure of our nation, including roads, bridges, hospitals, schools, and utility systems.

Under current law, the owners of municipal bonds are not required to pay federal income tax on the interest income they receive from the bonds.

Municipalities benefit from this tax exemption through substantial savings on the interest cost of borrowed money.

Recently, Congress has considered many options available to reduce the federal deficit. One option Congress is evaluating would reduce, eliminate, or phase out the exemption on municipal bond interest. President Obama's Fiscal Year 2014 Budget Proposal recommends capping the tax exemption of municipal bonds at 28%.

The federal tax exemption on municipal bond interest has been in place since the first federal income tax was enacted in 1913 having been maintained through two world wars, the Great Depression and the recent Great Recession, and as a result, state and local governments save, on average, two percentage points on their borrowing to finance investment in public infrastructure.

This exemption has generated trillions of dollars of investment in public infrastructure and has saved taxpayers hundreds of billions in interest costs.

Reducing or eliminating the exemption on municipal bonds would cause investors to demand higher returns on their municipal bond investments to make up for the tax they would have to pay.

The outcome of reducing or eliminating the tax exemption on municipal bond interest would be higher borrowing costs for state and local governments, less investment in infrastructure and fewer jobs.