"Individuals are always looking for a return on principal, and so tax-exempt interest is a very appealing item to individuals, especially those who live in zero-income-tax states," says Danny Moore, a certified public accountant and managing partner of tax at Galway Family Office. This highlights the allure of tax-exempt interest for investors seeking financial benefits, particularly in favorable tax environments.
Tax-exempt interest refers to interest that's excluded from your gross income calculation at the federal level, the state/local level, or both. Understanding the distinction in tax treatment is critical for investors evaluating their bond options.
Municipal bonds, or muni bonds, are typically issued by state and local governments and U.S. territories. They finance government operations and projects, such as building schools or restoring roads. This context reinforces the essential role of muni bonds in public finance.
Usually, bondholders receive two interest, or coupon, payments a year, which are not subject to federal income tax. After a set period of time, bondholders receive their original investment back. This structure provides a reliable income stream while maintaining favorable tax treatment for investors.
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