Municipal bond investors can breathe a sigh of relief now that the fiscal cliff debate has been put to bed without new tax treatment of municipal bond interest. During the cliff debate, municipal bond investors endured a major scare as Democrats and Republicans warmed to the idea of taxing interest earned on these bonds.
That interest has not been taxed for over a century and just the mere speculation that one of the primary allures of investing in municipal bonds could go by the wayside marquee ETFs tracking the asset class tumbling.
Fortunately, muni bond ETFs averted disaster and may be able to generate upside to go along with the income component in 2013.
The Market Vectors High-Yield Muni ETF (HYD), the largest ETF tracking high-yield munis, and the iShares S&P National AMT-Free Municipal Bond ETF (MUB), the largest muni bond ETF of any kind, have reclaimed some of their pre-cliff resolution losses. New tax rates on wealthy Americans could make municipal bonds and the corresponding ETFs even more attractive this year.
"Personal income taxes for individuals with income over $400,000 and households over $450,000 will increase; as will taxes on dividends and capital gains for those investors," notes Market Vectors Portfolio Manager Jim Colby.
Now that it is clear municipal bond interest will remain tax-free, some wealthy investors may be inclined to hunt for yield and income with the likes of HYD and MUB rather than pay the IRS an elevated tax from dividends earned on equities.
Colby, who serves as portfolio manager for HYD and several other Market Vectors ETFs including the Market Vectors CEF Municipal Income ETF (XMPT) and the Market Vectors Long Municipal Index ETF (MLN), higher taxes for some Americans make munis all the more attractive.
"At this time, tax-free investors can exhale knowing that their tax-free income streams remain preserved as we roll off the second strong performance year in a row; the Barclays Municipal Bond Index returned 6.78% in 2012. With higher taxes coming for many Americans, I believe the tax-free coupon makes munis all the more desirable," he said.
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