NASAA Series 66 Uniform Combined State Law ExaminationInvestment Vehicle CharacteristicsMedium
A retired couple is looking for an investment that provides a steady stream of income, is relatively safe, and offers some tax advantages at the state and local level. They are residents of a high-tax state. Which of the following would be most suitable?
- AMunicipal bonds issued by their home state.
- BU.S. Treasury bonds.
- CPreferred stock with a high dividend yield.
- DCorporate bonds from highly-rated companies.
Show answer & explanationAnswer & explanation
Correct answer: A. Municipal bonds issued by their home state.
Municipal bonds issued by the couple's home state offer income that is exempt from federal, state, and local taxes (triple tax-exempt for in-state residents), making them highly attractive for retirees in high-tax states seeking steady, tax-advantaged income and relative safety.
Why the other options are wrong
- B. U.S. Treasury bonds are exempt from state and local taxes but are subject to federal income tax, making them less tax-efficient than in-state municipal bonds for state and local tax purposes.
- C. Preferred stock dividends are generally taxable and subject to market risk, making them less suitable for safety and tax advantages than municipal bonds.
- D. Corporate bonds provide income but are fully taxable at federal, state, and local levels, offering no tax advantage.
Municipal Bonds
Debt securities issued by state and local governments or their agencies to finance public projects. Their interest income is often exempt from federal income tax and, for residents, from state and local income taxes.
- Tax-exempt interest is their primary appeal.
- General obligation bonds are backed by the full faith and credit of the issuer.
- Revenue bonds are backed by income from specific projects.
Memory trick: Tax-free income: a shield for your earnings.