Q: What is a Taxable Municipal Bond?
A: Taxable municipal bonds include municipal bonds that, for some reason, are not eligible for tax-exempt status under current IRS guidelines. These bonds have been issued since the Tax Reform Act of 1986. They also include bonds issued under the Build America Bond program, part of the 2009 American Recovery and Reinvestment Act.
Q: Why do issuers issue Build America Bonds?
A: In lieu of issuing tax-exempt debt, a municipality can issue taxable bonds and receive a 35 percent subsidy payment from the U.S. government. If the net interest cost, subtracting the subsidy, is lower than a tax-exempt issue, the municipality has a lower overall borrowing cost.
Q: Why would an investor buy a taxable municipal bond?
A: We believe that the strong credit quality of municipal bonds combined with corporate-like spreads makes taxable municipals attractive to investors seeking a safe source of income and capital.
Q: Are Build America Bonds federally guaranteed?
A: No. While the issuer will receive the 35 percent subsidy directly from the Treasury, timely payment of principal and interest is based on the issuing authority’s creditworthiness.
Q: I thought the Build America Bond program was set to expire in 2010. Is this true?
A: Although the program is scheduled to expire at the end of 2010, we believe it will be extended in some form. The taxable municipal bond program has two compelling advantages that will be hard for municipalities and the market to forgo in current economic conditions. First, the Build America Bond program provides a broader source of demand, primarily institutional, for longer-term municipal bonds. Second, the Build America Bond program offers municipalities a better interest subsidy, particularly in long-term maturities.
Q: How do you assess the credit quality of a taxable municipal bond?
A: At Breckinridge, we leverage our expertise in the municipal market to analyze credit quality. We subject taxable municipal bonds to the same rigorous credit analysis as we have always used for tax-free municipal bonds.
Q: How are taxable municipal bonds traded?
A: Just like tax-exempt bonds, taxable municipals are traded over-the-counter by hundreds of dealers from around the country. With no central exchange and opaque pricing, Breckinridge believes access to these dealers is of paramount importance.
Q: How about liquidity - can we sell these?
A: As the marketplace for taxables has expanded, liquidity options have multiplied. However, it remains important that taxable municipal bond investors seek managers with access to a deep and far-reaching pool of dealers.
Q: How is the structure of a taxable municipal different from a tax-exempt municipal?
A: While most of the features of the bonds are the same, some taxable municipal bonds have “make whole” call provisions as opposed to ten-year call protection. This is attractive to many institutional buyers.
