Life’s Certainties: Death, Taxes…and Municipal Bonds?

In a November 1789 letter addressed to his good friend, Jean-Baptiste Le Roy, Founding Father Benjamin Franklin shared that America was off to a great start and the recently established U.S. Constitution showed much promise but immediately added, “In this world, nothing is certain except death and taxes.” Today, this famous phrase has never hit closer to home for inhabitants of this post-COVID-19 world as the certainties of death and taxes are juxtaposed against the uncertainties of everything else. Shortly after the Biden administration announced the $2.7 trillion American Jobs Plan and the $1.8 trillion American Families Plan, investors have been acutely preparing for higher tax burdens. Enter municipal bonds: not only do they provide much-needed tax sheltering; investors are also drawn to the historically-low volatility and low default rates of the asset class. As an added sweetener, tax-exempt municipals have, so far, insulated investors from the broad inflationary pressures that have pummeled virtually every other fixed income asset class this year. That said, perhaps those adding money into tax-exempt debt this year view municipals as one of the most appropriate asset classes to simultaneously address life’s two certainties in one fell swoop.

While the American Rescue Plan and its $350 billion emergency allocation to states and local governments has been an absolute credit positive for the market year-to-date, all eyes are now on these two subsequent proposals. The American Jobs Plan and the American Families Plan are both, in President Biden’s words, "A once-in-a-generation investments with the purpose of respectively rebuilding our country’s aging infrastructure and retooling our education system." Both plans call for a partial unwinding of key tax amendments made in the Tax Cuts and Jobs Act (TCJA) of 2017. The Jobs Plan proposes raising the corporate tax rate from 21% to 28% while the Families Plan is looking to reinstate the top federal tax rate from 37% back to its pre-2017 level of 39.6%. Additionally, households earning over $1 million would be charged the same 39.6% rate on the investment income under the Families proposal, almost double their current capital gains tax of 20%. While both plans are carefully making their rounds through Congress as of the publishing of this article, high net worth investors haven’t left much to chance. Through May 12, an unprecedented $44.6 billion has been added to municipal mutual funds and ETFs (exchange-traded funds) year-to-date, according to Investment Company Institute. On top of this insatiable retail demand, many expect institutional investors like U.S. banks and corporations – who were net sellers of municipal debt in recent years – to begin ramping up their tax-exempt holdings in the coming quarters.