Who is earning tax-exempt interest from muni bonds?

July 10, 2013

About one third of the U.S. House of Representatives signed a letter to keep the current tax exemption for municipal bonds in place. Investment News got the story:

The municipal bond market’s dogged efforts to prevent President Barack Obama from tinkering with the 100-year-old tax exemption for muni bond income has received some high-profile support from 137 members of Congress.

A letter supporting the status quo for the muni tax exemption, and signed by 95 Democrats and 45 Republicans, was delivered today to Speaker of the House John Boehner and minority leader Nancy Pelosi.

No comparable letter of support has circulated out of the Senate. The question of capping the tax exemption for municipal bonds at 28 percent has been bouncing around for about two years. Here is the latest IRS data (from 2010) that shows the number of tax-exempt filers by income category:


In 2010 there were 5.95 million taxpayers who filed claims that included tax-exempt interest. The total amount of deductions was $72 billion, or an average of $12,105 per taxpayer. However, the average is misleading. In the lowest income bracket ($1-$5,000), taxpayers claimed an average of $2,631 of tax-exempt interest. In the highest income bracket (above $10 million) the average tax-exempt interest claim was $486,387 per taxpayer.

55 million taxpayers claimed taxable interest and 28 million claimed ordinary dividends, compared to the nearly 6 million that claimed tax-exempt interest. My question is, if the municipal bond exemption were capped, would increased yields attract any of the 55 million taxpayers who earn taxable interest? Or is the universe of municipal investors already capped at its current size?

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