Want to invest the world around you, in a literal sense? Municipal bonds or munis are just the ticket.
When you hear the word debt, your mind might jump right to your student loan payments. However, state and local government debt is a whole different kettle of fish. When used for funding infrastructure, education, and jobs, this kind of debt is vital to our economy, and can be a great investment.
Recommended reading: Debt and Equity: What Every Smart Investor Needs to Know
When we pay taxes – federal, state, and local — those taxes are used to maintain, build, and fund public property and/or services. This includes things like Social Security and Medicare, roads and bridges, schools and hospitals, courts and prisons … the list goes on.
But sometimes, a state, city, or township needs to fund a new project — a project that will benefit the community, like a new town park or updated water treatment system. How do those proposals get funded?
Governments can raise taxes (which can be unpopular with taxpayers) or they can get a loan.
How does this work?
Municipal bonds aka munis
Since a state or local government can’t walk into a bank, borrow from Mom and Dad, or bribe their older sibling for cash, they sometimes sell municipal bonds as a way of raising cash.
Municipal bonds, or munis as they are affectionately called, are debt securities issued by states, cities, and municipalities to fund important building projects like schools, hospitals, roads, bridges, and utilities. They can also be used to fund day-to-day operational costs – everything from public employees’ salaries to the electric bill at City Hall. Simply put, a bond is a loan and you, as the buyer, are the lender.
Why loan the government money when you already pay taxes?
The money raised in muni bond sales can be earmarked for a variety of different things – one of them can be specific local projects, like improving the neighborhood. Better yet, municipal bonds tend to be low risk with low default and even lower volatility.
This can make them an attractive ingredient for a long-term investment recipe. The set interest rates and defined loan periods mean you generally know how much you’ll earn in interest and when those payments are made.
Then there’s the tax benefit … munis are often triple tax-exempt. (The triple threat of tax exemption… meaning they’re not taxed by the federal, state, or local government). Cha-ching! The tax-exempt nature of munis make them a particularly attractive investment for those in higher income brackets.
Munis have been around for centuries. The first official municipal bond sold in the United States was issued in 1812 by New York City to fund the construction of the Erie Canal (photo below, left).
In the 1930s, the Golden Gate Bridge was also constructed on the back of munis by people who used their homes and farms as collateral during the Great Depression (photo below, right).
And more recently, bonds were used to build MARTA (Atlanta’s transit system), Denver International Airport, and Chicago’s Millennium Park.
A Municipal Bond ETF
Want to get in on the muni game? You could research and buy municipal bonds from various states and cities, or you could invest in Public Works on Stash. The fund is called the iShares National Muni Bond ETF (MUB), and it tracks the S&P National AMT-Free Municipal Bond Index.
This index offers market-cap-weighted exposure to the U.S. investment-grade tax-exempt municipal bond market. This excludes bonds subject to the Alternative Minimum Tax. That’s a supplemental tax imposed by the Fed for certain people, estates, and trusts that have exemptions allowing for lower income tax payments.
Still not entirely clear on how bonds work? Click on over to our quick and easy intro: Friends with Bond-ifits: Bonds are the Better Kind of FWB.
Public Works holds state and local government bonds from 44 states and the District of Columbia, with California, New York and Texas forming the Big Three. The fund’s assets are all investment-grade bonds.
Proceeds from the bonds in this fund are used to finance a variety of projects related to transportation (15.34%), utilities (15.27%), school districts (5.45%) and education (3.87%).
You might consider an investment in Public Works if you want to balance out some higher risk investments in your Stash. Diversify that portfolio!
Check out: How to Mix a Classic Investing Cocktail
The attractive risk-reward profile combined with tax-exempt status make building your portfolio and building your community go together as well as apple pie and ice cream.
Now what’s more American than that?
Related reading: Treasury Bonds: Investing with Uncle Sam