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FMSbonds, Inc.'s Bond Forum™ is an exclusive opportunity for investors to submit questions and comments on the bond market or to respond to one of our articles.
To participate, just send us an e-mail. Be sure to include your name or initials and your state of residence. Posted e-mails may be edited for length and clarity. If you prefer a private response, please note that in your e-mail. Responses are provided by James A. Klotz, president and co-founder of FMSbonds, Inc., a municipal bond specialist for more than 35 years; Dr. Jay H. Abrams, chief municipal credit analyst; and other members of the firm as noted.
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You discuss the advantages of premium bonds in your article, “The Smart Buy in Today’s Market,” but if the bond has an extraordinary call or a sinking fund provision, the figures don't look quite so rosy.- J.B. Florida
Extraordinary redemptions are present in virtually every bond issue if the proceeds are being utilized for a specific facility or project.
The exercise of these provisions is extremely rare and the requirements are extremely restrictive (and for these reasons are not factored into the yield calculations). They can only be exercised as a result of a certifiable catastrophic event, usually prior to the completion of the project. These rare events should not be a deterrent to taking advantage of the better-than-market returns available with premium bonds.
I understand the point you made in your article, “The Smart Buy in Today’s Market,” comparing a premium municipal bond yield to a new bond selling at par yield. How does the IRS require that I account for a premium on my tax return?- W.B., Pennsylvania
The bond premium must be amortized. There is no tax loss at maturity, since the bonds maturing at par was the assumption at the time of purchase. There can, however, be a gain or loss based on the amortized value if sold prior to maturity.
This is a conceptual explanation of premium bond taxation. Keep in mind that we are municipal bond specialists, not accountants. It is important to consult your tax professional for any specific application.
Interest from Build America Bonds (BABs), sold from 2008 to 2010 as part of the federal stimulus package, is 35% subsidized by the federal government. What would happen to the interest and principal if municipalities that issued BABs run into financial problems? Do the feds back the principal, and would they allow these municipalities to declare bankruptcy and even default?- M.M., Tennessee
Under the BAB program, the interest subsidy was intended to assist issuers in lowering their interest costs. It was not intended to be a credit enhancement.
Issuers must file a request for a subsidy payment at the time each interest payment is due. The federal government does not make a subsidy payment if the issuer does not make an interest payment. Principal payments are not subsidized.
The federal government, then, would not intercede if an issuer experienced financial problems or defaulted on its bond payment obligations.
This report is produced solely for informational purposes and is not to be construed as a solicitation or an offer to buy or sell any securities or related financial instruments. This report is based on information obtained from sources believed to be reliable but no independent verification has been made, nor is its accuracy or completeness guaranteed.