Municipal bond investors are breathing a tentative sigh of relief as the initial House plan to overhaul the tax code left the tax exemption on muni bond interest unchanged.

The plan, unveiled Thursday, is the starting point of an effort by Republican lawmakers to significantly change tax laws by the end of the year, and many provisions are likely to be altered as the bill undergoes wide scrutiny.

Other bond-related provisions in the bill call for ending the issuance of private activity bonds and bonds that fund professional sports stadiums. Further, it would eliminate advanced refunding of debt issues and bonds backed by federal tax credits.

Analysts said such moves could reduce the supply of munis, thereby enhancing their value.

Muni Bond Exemption Sticks on Initial Tax Plan

Muni exemption looks safe for now

Efforts to curtail or eliminate the exemption of interest on muni bonds have been afoot for several years. A blueprint for a tax overhaul issued by House Republicans last year, for example, was widely seen as taking a dim view of the exemption.

However, there’s been a concerted response by government finance leaders, lawmakers, investors and the industry to point out the integral role municipal bonds have played for decades in financing infrastructure projects (Voices Growing Louder on Muni Tax Exemption).

Indeed, just after the overhaul plan was introduced, some analysts questioned eliminating private activity bonds (PABs). Although PABs represent only a sliver of the debt sold by state and local governments, they help finance projects like airports and roads, and private financing for infrastructure is a tool President Trump has said he favors.

Other aspects of the tax-code rewrite include eliminating the alternative minimum tax; eliminating the deduction of state and local income taxes; and capping the deduction of state and local property taxes at $10,000.

Additionally, the bill would shrink the number of tax brackets from seven to four. The top rate of 39.6% would be retained, and of further note to high-income investors, the bill did not change how income on investments is taxed and the 3.8% tax on capital gains and dividends for individuals earning more than $200,000 remains.

The proposed changes to the tax code are the most sweeping since 1986, and numerous groups are expected to weigh in. As one lawmaker put it, the plan “isn’t the last product,” but “the kickoff to this tax reform exercise.”

We’re pleased, at least at this point, that changes to the exemption of interest on municipal bonds are off the table.

James A. Klotz is the President of FMSbonds, Inc. Email the Author 11/03/2017