Editor’s note: Today, we’re continuing our holiday series from Dr. David Eifrig… For the past three months, Doc has been looking into “common sense” solutions for Americans who are worried about privacy, security, and wealth protection. Below, you’ll find one of his top recommendations for legally keeping a portion of your income away from the taxman…
One of My Favorite Ways to “Dodge” Taxes
by Dr. David Eifrig
Are you earning the market’s safest, highest tax-free yields?
Or are you still buying into the hype?
For the past three years, I’ve been one of the few investment advisors to continually “pound the table” on municipal bonds. They’ve been – and will continue to be – a great deal for income-seeking investors.
As you probably know, municipal bonds are loans made to state and municipal governments. To encourage folks to invest in the government, interest received from “munis” is exempt from federal income tax and, in many cases, state and local income taxes.[ad#Google Adsense 336×280-IA]This makes them a great way to earn investment income… and keep it from the taxman.
During the time I’ve been urging investors to own munis, there’s been an enormous amount of “fear hype” surrounding them.
On the December 19, 2010 broadcast of 60 Minutes, Wall Street analyst Meredith Whitney – best known for her bearish call in the fall of 2007 on Citigroup – foretold 50-100 “significant” municipal bond defaults that would add up to “hundreds of billions of dollars.”
Whitney’s media appearance caused a panic.
About $30 billion exited the muni bond market.
Some of the strongest, best bond funds fell 15% in just a few months. This is an enormous move for “boring” bonds.
The panic was way overdone. In 2011, defaults totaled just $2.6 billion. That’s a hair less than the $2.8 billion defaults in 2010 and hardly the disaster industry “experts” were expecting. My Retirement Millionaire readers kept holding their muni bonds and making great tax-free money.
And then Stockton, California stoked the fear hype again. Back in June, Stockton became the largest U.S. city to declare bankruptcy. The crisis triggered the same warnings investors had heard for years.
But remember… the municipal bond market is huge… It’s over $3 trillion. So while Stockton is the largest city to declare bankruptcy – with over $500 million in debt – it can’t do much, if any, harm to the whole muni market.
This year, the numbers of municipal defaults will still be minuscule – perhaps 0.5%-1% of the total municipal bond market. But many of the muni bonds are priced as if they’re expecting 10%-14% default rates. Remember… in 2011, defaults totaled $2.8 billion… less than 1% of the total market. Even if defaults doubled (to $5.6 billion), that is still less than 1% of the market… and a long way away from the 10%-14% the talking heads are yelling about.
Plus, when there is a default, new terms are usually quickly worked out. Sometimes investors still get new deals that provide $0.80-$0.90 on the original dollars. In short, default isn’t the huge risk you’re hearing about.
Many investors have sold municipal bonds in the past month. They’re afraid politicians will try to tax folks on muni bond interest income. This is another overblown fear. It’s not happening.
One of my favorite municipal bond picks is the Invesco Value Municipal Income Trust (NYSE: IIM). IIM invests in tax-free, fixed-income securities. It holds a diversified portfolio of mostly A-rated (or higher) municipal securities. The interest and principal payments are also covered by insurance. Owning a fund that holds insured, investment-grade paper means we can sleep well at night.
IIM’s current distribution rate is 5.6%. For people in the 35% tax bracket, this works out to an incredible 8.6% taxable equivalent yield.
Bottom line… Don’t let the scary headlines and gloomy predictions spook you out of a great investment and a great tax “dodge.” Ignore the hype and earn safe, tax-free income.
Here’s to our health, wealth, and a great retirement,
Dr. David Eifrig[ad#stansberry-ps]