Monday the Court considers whether to treat in-state and out-of-state municipal bonds differently for income tax purposes.
Currently, 38 states exempt interest on their own municipal bonds from state income tax, but tax revenue on bonds from other states.
Another problem: Many states are contractually obligated (under the state constitution in some cases) to exempt interest on their municipal bonds from state income tax.
In the second scenario, however, we modeled a revenue-neutral plan that eliminated the taxes-paid deduction and municipal bond exemption while lowering income tax rates across the board.
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The interest on municipal bonds is exempt from income tax on the federal and sometimes state levels, giving them a higher after-tax yield than a corporate or Treasury with the same coupon and maturity.
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Another important change is that until the 1986 tax reform, interest income on the trillions in municipal bonds was not required to be reported on individual tax returns.
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That's because these investors often have large amounts of tax-free income, thanks to municipal bonds or Roth individual retirement accounts.
Or because they derive much of their income as capital gains or from tax-free municipal bonds.
President Barack Obama has proposed limiting or ending the tax-exempt interest on municipal bonds for upper income Americans.
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The news overnight has not been comforting for the millions of Americans who look to municipal bonds as a safe way to earn tax-sheltered income.
Yields and market values of municipal securities may be hurt more by changes in tax rates and policies than similar income-bearing securities that are taxable.
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Similarly, fixed-income securities held in taxable accounts can be shifted to municipal bonds, which may provide higher after-tax yields.
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An even greater number of those with high expanded income escaped paying any tax, largely because of the exclusion from tax of interest earned on municipal bonds.
Investment-grade, intermediate municipal bonds are yielding 2.2% and up, or 3.4% after tax for upper-income investors.
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This tax is assessed to filers who have large amounts of certain types of income, such as ISO bargain elements or municipal bond interest, and is designed to ensure that the taxpayer pays at least a minimal amount of tax on income that would otherwise be tax-free.
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