TAKING STOCK: Municipal bonds

Dear Mr. Berko:

A very respected and reliable source told us of a movement under way in both the House and Senate to tax all interest on municipal bonds beginning in 2012. We have a rather large municipal bond portfolio, and this information distresses us more than you can imagine. We wrote our congressman a month ago and just got back a ridiculously syrupy letter that told us nothing. My two brokers know nothing of this so you are my source of last resort. Can you provide me with any information on this?

R.S., Oklahoma City

Dear R.S.:

For your information, our government really needs money to fund our entitlement programs such as food stamps, Medicaid, Supplemental Security Income, lower-income housing assistance, earned income tax credits, Stafford Loans, Pell Grants, bilingual education, low rent public housing, general medical assistance, cellphone entitlements, foster care, school lunch programs, Head Start, training for disadvantaged youth and adults, low-income energy assistance, rural housing loans, summer youth employment, maternal child health, Job Corps, child care block grants, school breakfast, at-risk child care and their programs to assist unfortunate Americans.

Sens. Ron Wyden, D-Ore., and Dan Coats, R-Ind., recognize that these important entitlement programs account for 47 percent of our annual budget. So in early April, they proposed a bill to prevent municipal borrowers from issuing tax-exempt bonds. Wyden and Coats recognize that eliminating these tax breaks for wealthy investors would help "plug the federal budget deficit."

This proposal is gaining traction and appears to have broad support among Democrats, as well as Republicans. The Wyden-Coats proposal would make all interest on state and local debt taxable after 2011. This proposal is supported by President Obama's National Commission on Fiscal Responsibility and Reform. Support for this bill is based upon a study by the Congressional Research Service that finds tax exemptions for state and local borrowings would cost the government $162 billion in revenues between 2010 and 2014.

Meanwhile, Alice Rivlin, who heads the NCFRR, is a very close Hillary Clinton pal who tried to help her pass the health care bill in l993.

The proposal will take months to get through the legislative process, and the current sentiment, about 35 percent in favor, believes its passage would add $40 billion annually to Treasury revenues. But not to worry about your "rather large municipal portfolio." A very knowledgeable legislative aid (someone I trust), told me that the proposal will grandfather the tax exemptions for bonds issued prior to 2011.

But if you have any new bonds in your portfolio that were issued this year, they may be taxable. However, bonds that were purchased in 2011 but issued prior to 2011 will remain tax exempt.

This is a wonderful Golconda for those honorable lobbyists who roll suitcases through the halls of Congress stuffed with candy as they try to derail this proposal. But if they fail, and if the bill passes, the tax-free bonds in your "rather large municipal portfolio" will rise hugely in value. If it doesn't pass this year or next, I'm certain that others will carry the torch until it becomes law. It took years for the torchbearers to pass our new health care legislation, and given the administration's fierce determination, this can be passed after the 2012 election.

So while the municipal market is in a funk, you might consider looking at some of those Illinois municipal bonds I mentioned a few months ago, as well as bonds from other states. And if you are not comfortable owning individual issues, consider the many tax-free ETFs or no-load municipal bond funds. They will appreciate quite nicely, too.

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Please address your financial questions to Malcolm Berko, P.O. Box 8303, Largo, FL 33775 or e-mail him at mjberko@yahoo.com. Visit Creators Syndicate website at www.creators.com.

© 2011 Creators Syndicate Inc.

Published: Mon, May 23, 2011