Tax Exempt Interest

The Internal Revenue Code states that all income, "from whatever source derived", is taxable. It provides for a few exceptions to this rule, and one of the exceptions is state and local municipal bond interest. What this means is that if you buy a bond from a state or local government; for example, to build a new high school, the interest you earn on that bond is not taxable to you for federal purposes. Holding Municipal bonds, and funds that contain municipal bonds, is a popular investment strategy to limit your taxable investment income. Bear in mind that muni bond interest may still be taxable for state purposes. The State of Colorado, for example, taxes bond interest from other states.  While muni bonds have a place in a well-balanced portfolio, make sure you are evaluating investments on an after-tax basis. You may end up with a higher after-tax return on a taxable bond, because of a better interest rate. Your CPA or investment advisor can help you calculate the after-tax return on your investments.