Federal Proposals Take Aim at Tax-Exempt Municipal Bonds

 

A pair of federal proposals would harm cities’ ability to issue municipal bonds to fund necessary infrastructure improvement projects. 

Dave Camp (R – MI), the Chairman of the House Ways and Means Committee, has drafted an omnibus tax reform bill that would create three individual income tax brackets.  The bill would tax a portion of municipal bond interest for those in the highest tax bracket. 

More specifically, the proposal would put a 25-percent cap on the amount of tax-exempt municipal bond interest for individuals earning more than $400,000 per year and couples earning more than $450,000 per year. The draft legislation would also eliminate the tax-exempt status of both private activity bonds and advanced refunding bonds, two types of bonds that are sometimes used by cities and other local entities, such as economic development corporations. 

Additionally, the Obama administration has targeted the municipal bond tax exemption in its budget proposal for fiscal year 2015. The proposal includes taxing a percentage of municipal bond interest. Similar exemption caps have been included in previous budget proposals from the administration. 

The federal government has not taxed interest on municipal bonds since a landmark ruling of the U.S. Supreme Court in 1895. A decision by Congress to do so now would significantly increase cities’ borrowing costs because investors would no longer be able to avoid paying federal income taxes on any interest earned from a purchase of municipal bonds and would demand higher interest payments instead.

Subjecting bond interest to federal taxation would have the effect of either: (1) restricting city bond issuances at a time Texas cities need flexibility to provide essential services in response to economic growth; or (2) increasing the tax burden on city taxpayers who will pick up the tab for the added costs of issuing municipal bonds.  

For more detailed information from the National League of Cities, which has worked diligently to protect cities on this issue, go to: http://www.nlc.org/influence-federal-policy/advocacy/federal-advocacy-priorities/protect-municipal-bonds.

City officials should contact their members of congress to express concerns with such proposals. 

 

TML member cities may use the material herein for any purpose. No other person or entity may reproduce, duplicate, or distribute any part of this document without the written authorization of the Texas Municipal League.

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