Municipal Tax Exemption & TFEY — Q&A

Fully taxable as ordinary income at all three levels (federal, state if applicable, local if applicable).

Taxable at the federal level; exempt from state and local income taxes. Federal tax is usually the largest portion, so the state/local exemption provides modest savings.

Exempt from federal, state, and local taxes — fully tax-free for a resident of the issuing state.

Federally tax-exempt, but potentially subject to Colorado state and local income taxes. Out-of-state munis lose the home-state exemption.

U.S. territory bonds (American Samoa, Guam, Northern Mariana Islands, Puerto Rico, U.S. Virgin Islands) — always fully tax-exempt to any investor.

4.4%. TFEY = CY × (100% − TB) = 7% × 63% = 4.4%. The muni at 5% tax-free is the better choice.

Corporate bond. TFEY = 7% × 75% = 5.25%, which exceeds the 5% tax-free muni yield. ⚠️ Munis suit high tax brackets, not low ones.

TFEY = Corporate yield × (100% − Tax bracket). Used to compare a taxable corporate yield to a tax-free municipal yield on an after-tax basis.

Retirement accounts are already tax-sheltered — the muni’s tax advantage is wasted. Investors typically hold higher-yielding taxable bonds (corporate or government) inside tax-deferred accounts.

When the investor is subject to the alternative minimum tax (AMT), most commonly on private activity bonds — munis financing projects that primarily benefit a non-public entity. These bonds often carry higher rates to compensate.