Types of Municipal Securities
With the two main categories (general obligation (GO) and revenue bonds) understood, this unit covers the full range of municipal securities, from short-term notes to special bond types to municipal fund securities like 529 plans.
Summary: GO Bonds vs. Revenue Bonds
| Feature | GO Bonds | Revenue Bonds |
|---|---|---|
| Backing | Full faith, credit, taxing power | Revenue from a specific project |
| Voter approval | Required | Not required |
| Risk level | Generally lower | Generally higher |
| Maturity structure | Usually serial | Usually term (with sinking fund) |
| Common issuers | States, cities, counties, school districts | Authorities, agencies, special districts |
Short-Term Municipal Obligations
These are used to address cash flow timing mismatches between when expenses are incurred and revenue is received. All are typically less than one year.
| Type | Abbreviation | Purpose |
|---|---|---|
| Tax anticipation notes | TANs | Bridge financing until property tax revenue is collected |
| Revenue anticipation notes | RANs | Bridge financing until other revenue (e.g., state aid) is received |
| Tax and revenue anticipation notes | TRANs | Combination of TANs and RANs |
| Bond anticipation notes | BANs | Short-term financing until long-term bonds are issued |
| Grant anticipation notes | GANs | Bridge financing until federal/state grant money is received |
| Tax-exempt commercial paper | TECP | Very short-term (1-270 days); used for interim financing |
Exam Tip: Gotchas
- Each note type is named for its repayment source. TANs are repaid from taxes, RANs from revenue, BANs from bond proceeds, GANs from grants.
Special Types of Municipal Securities
| Type | Description |
|---|---|
| Special tax bonds | Backed by a designated tax other than property tax (e.g., excise tax, sales tax, hotel/motel tax) |
| Special assessment bonds | Backed by assessments charged to property owners who directly benefit from the improvement (e.g., sidewalks, street lighting) |
| Moral obligation bonds | State legislature has a non-binding moral commitment (not a legal obligation) to appropriate funds if the issuer cannot meet debt service; carries more risk than a GO |
| Double-barreled bonds | Backed by both a specific revenue source and the full faith and credit (taxing power) of the issuer; provides dual security |
| Advance refunded (pre-refunded) bonds | Outstanding bonds defeased by placing U.S. government securities in escrow; typically rated AAA because they are backed by Treasuries |
| Taxable municipal bonds (e.g., Build America Bonds) | Interest is federally taxable; BABs were created under the American Recovery and Reinvestment Act (ARRA) of 2009, expired Dec. 31, 2010; issued as direct-pay (35% federal subsidy to issuer) or tax-credit (35% credit to bondholder) |
| Original issue discount (OID) bonds | Issued below par; the discount accretes annually and is treated as tax-exempt income for munis |
| Zero-coupon / capital appreciation bonds (CABs) | No periodic interest payments; sold at a deep discount and mature at par; the accretion is tax-exempt for municipal CABs |
| Certificates of participation (COPs) | Investors hold a pro-rata share in lease payments; secured by the lease, not by taxing power; subject to annual appropriation risk |
| Lease revenue bonds | Similar to COPs; backed by lease payments from a municipal entity; subject to appropriation risk |
| Variable-rate securities | Interest rate resets periodically (daily, weekly, monthly); often supported by a demand feature (put option) allowing the holder to tender at par |
| Auction rate securities (ARS) | Interest rate resets through a Dutch auction (typically every 7, 28, or 35 days); failed auctions leave holders locked in at a penalty rate |
| AMT bonds (private activity bonds) | Interest is a tax preference item for the alternative minimum tax; issued for private purposes with public benefit (e.g., industrial development, airport terminals, student loan bonds); higher yields to compensate for AMT exposure |
Key distinctions:
- Moral obligation: Not legally binding; the legislature can refuse to appropriate funds
- Double-barreled: Two sources of repayment make these safer than either a pure GO or pure revenue bond
- COPs and lease revenue bonds: Subject to annual appropriation risk; the municipality must approve funding each year, which adds uncertainty
- Pre-refunded bonds: Among the safest munis because the escrow holds U.S. Treasuries
Exam Tip: Gotchas
- Moral obligation is NOT a legal obligation. The legislature can say no, making these riskier than GO bonds.
- COPs are subject to appropriation risk because the municipality must approve the lease payment each year.
- Pre-refunded bonds are rated AAA because of the escrowed Treasuries, not because of the original issuer's credit.
Municipal Fund Securities
529 College Savings Plans
- Tax-advantaged savings plans for qualified education expenses (tuition, room and board, books, K-12 tuition up to $10,000/year)
- Contributions are made with after-tax dollars (no federal tax deduction, but many states offer state tax deductions)
- Earnings grow tax-deferred; withdrawals for qualified expenses are tax-free
- Non-qualified withdrawals: Earnings portion is subject to ordinary income tax plus a 10% penalty
- No income limits on who can contribute; no age limits on beneficiaries
- Account is owned by the contributor (not the beneficiary), providing donor control
Superfunding (5-year gift tax election):
- A contributor may front-load up to 5 years' worth of the annual gift tax exclusion in a single year
- For 2025-2026: $19,000 x 5 = $95,000 per beneficiary (single filer); $190,000 for married couples
- No additional gifts to that beneficiary are allowed during the 5-year period
- Must file IRS Form 709 (gift tax return) in the first year of the election
Beneficiary changes and rollovers:
- Beneficiary may be changed to another family member without tax consequences
- Tax-free rollovers permitted from one 529 to another for the same beneficiary (once per 12-month period) or to a different family member's 529 plan
- 529-to-Roth IRA rollover: Beginning in 2024, up to $35,000 (lifetime) can be rolled from a 529 to a Roth IRA in the beneficiary's name (account must have been open 15+ years; subject to annual Roth contribution limits)
Municipal Securities Rulemaking Board (MSRB) classification:
- Defined by MSRB Rule D-12 as municipal fund securities
- Reported under MSRB Rule G-45
Local Government Investment Pools (LGIPs)
- Pooled investment vehicles for local governments to invest idle funds
- Operated by state treasurers or state-authorized entities
- Function similarly to money market funds but are not registered under the Investment Company Act of 1940
- Provide liquidity and diversification for short-term government cash balances
ABLE Accounts (Achieving a Better Life Experience)
- Tax-advantaged savings for individuals with disabilities (onset before age 26; expanded to age 46 under ABLE Age Adjustment Act)
- Annual contribution limit: $19,000 in 2025, $20,000 in 2026
- Earnings grow tax-free if used for qualified disability expenses (housing, education, health, transportation)
- Non-qualified withdrawals: Earnings portion subject to ordinary income tax plus a 10% penalty
- Beneficiary change permitted to another eligible individual who is a family member
- 529-to-ABLE rollover: Tax-free rollovers from a 529 plan to an ABLE account are permitted
- Assets up to $100,000 do not count against Supplemental Security Income (SSI) eligibility
Exam Tip: Gotchas
- 529 plans have no income limits (unlike Roth IRAs) and no age limits on beneficiaries.
- The 529-to-Roth IRA rollover requires the account to have been open 15+ years.
- 529 beneficiary changes must be to a family member. ABLE account changes must also be to an eligible family member with a qualifying disability.
- Non-qualified withdrawals from both 529s and ABLE accounts trigger taxes AND a 10% penalty on earnings, not just taxes.