Municipal Bond
A debt security issued by a city, county, state, or other government entity to finance capital expenditures. Interest income is generally exempt from federal income tax.
How It Works
The tax exemption on municipal bond interest under IRC Section 103 (enacted in the Revenue Act of 1913) makes "munis" attractive to investors in high federal tax brackets and allows state and local governments to borrow at lower rates than corporations or the U.S. Treasury for longer maturities. The municipal bond market is approximately $4 trillion in face value outstanding per SIFMA data, split roughly 60% general obligation and 40% revenue bonds, held predominantly by individual investors (both directly and through mutual funds), banks, and insurance companies. Bonds are rated by the three Nationally Recognized Statistical Rating Organizations (NRSROs) primary in the muni market, Moody's (scale Aaa, Aa, A, Baa, Ba, B, Caa, Ca, C), S&P Global Ratings (AAA, AA, A, BBB, BB, B, CCC, CC, C, D), and Fitch Ratings (similar scale). The rating determines the interest rate the government must pay: at current (2026) conditions, a Aaa-rated 10-year muni yields roughly 250 basis points below a Baa-rated issue. Municipal defaults are rare but not unheard of. Notable examples include Orange County, California (1994, derivatives losses, $1.7 billion); Jefferson County, Alabama (2011, sewer system, $3.1 billion); Stockton, California (2012, $900 million); Detroit, Michigan (July 2013, $18 billion, largest municipal bankruptcy); and Puerto Rico (June 2016 PROMESA, $72 billion restructured). Post-Dodd-Frank, muni bond disclosures flow through the MSRB's EMMA system. Moody's research documents a 10-year cumulative default rate of 0.08% for investment-grade munis versus 2.2% for similarly rated corporate bonds.
Related Terms
- General Obligation Bond (GO Bond), A municipal bond backed by the full faith, credit, and taxing power of the city, meaning the city pledges to raise taxes if necessary to repay bondholders.
- Revenue Bond, A municipal bond repaid from a specific revenue stream (like water fees or toll road revenue) rather than the city's general taxing power.
- Credit Rating (Municipal), An assessment by a rating agency (Moody's, S&P, Fitch) of a city's ability and willingness to repay its debt obligations. Higher ratings mean lower borrowing costs.
- Debt Service, The annual cost of repaying outstanding municipal debt, including both principal payments and interest on bonds and other borrowings.
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About This Definition
This definition is part of the CitySpend Municipal Finance Glossary, 59 terms explaining how city governments fund and manage public services. All definitions are written in plain language for taxpayers, journalists, students, and municipal bond investors.