Most of the folks up on Capitol Hill and down on Pennsylvania Avenue are either cheering their success or lamenting their political losses over the so-called “Fiscal Cliff” deal. There are some real winners in the ill-named American Taxpayer Relief Act, despite what many people might think. And for some savvy investors, there is plenty to be cheering for when it comes to their portfolios. I’ll get to that in a moment.
First, while earmarks might be off the table these days when lobbying Representatives and Senators, tax loopholes are still very much fair game. Within the legislation that the President signed by the mechanized Presidential autopen while on vacation in Hawaii, there are some big ones.
From tax deals for Goldman Sachs and other investment banks with real estate deals in Lower Manhattan to special credits for every financial and manufacturing firm that does business outside the United States, there is pretty much something for anyone who had a lobbyist or two trolling the hallways and cloakrooms of the Capitol.
That includes deals for NASCAR racetrack owners, rum producers in U.S. territories, coal companies operating on Indian reservations and plenty more — all amounting to more than $60 billion in tax deals.
According to the Congressional Budget Office, the legislation barely ended up cutting any spending — amounting to a measly $15 billion — while increasing taxes on the rest of us by $620 billion.
Right away, every working American will see a 2 percent tax on his first dollar made this year with a major payroll tax increase. For many Americans (those with incomes above $400,000; $450,000 for a married couple), this is on top of the new Obamacare tax of 3.8 percent on investment income. Their tax rate on dividends rises from 15 percent to 20 percent. That effectively brings their total tax rate to 23.8 percent.
And just to make you even unhappier: While private sector workers will see less in their net paychecks, Federal employees will get a big raise in March unless Congress and the President intervene. The raise is built into the Federal budget.
While most investors will see their portfolios’ profits and income reduced by higher taxes and some more wealthy investors will see the new higher income tax bracket and reduced deduction allowances, some investors should be popping the corks on a few bottles of bubbly over what wasn’t included in the Fiscal Cliff legislation.
In October, I wrote about what you needed to do to reduce your investment tax costs while also trouncing the general stock market. In Cut Uncle Sam Out Of Your Best Investments, I made the case for buying municipal bonds.
The key was and remains that munis continue to be a solid and less risky part of the market, despite the hokum of the doom-and-gloom set.
Taxes have risen and keep rising, providing States and localities more revenue to service their muni bonds.
Defaults not only continue to be rare, but are actually falling. And the market continues to price the risks of default via insurance contracts or credit default swaps at lower and lower prices.
Meanwhile, with U.S. Treasuries on the floor when it comes to yields, munis continue to provide not just better nominal yields, but even better after-tax net yields. And they are only getting better, thanks to the new taxes and tax rates.
It’s no wonder that the general muni bond market continues to perform. Since 2009, the overall muni market as tracked by Standard & Poor’s 500 index is up more than 36 percent. So far in the new year, it’s on the same track.
With the American Taxpayer Relief Act, munis were left out of any new limits or taxes. Congress and the White House recognized that if the tax-free nature of the market was impeded upon, it would result in economic carnage for the Nation’s State and local governments and a net loss in overall fiscal standing for the Federal government in the process.
Buy Then, Buy Now
It’s not too late to buy or buy more muni bonds through my three favorite municipal bond investment companies.
The three selected closed-end municipal bond funds trade nice and easy on the New York Stock Exchange. What sets these three apart is that they have well-chosen collections of good, well-paying muni bonds that are selected for their own merits rather than due to pure ratings or insured deals. They’ve done well not only this past year but over the past decade through thick and thin. So far this year, they are up collectively on average more than 5 percent.
First is Nuveen Quality Income Municipal Fund, Inc. (NQU). This is run by one of the best in the municipal market management businesses. It yields a current rate of 5.3 percent and is up more than 14 percent for the trailing year. Even better, over past five years (including all of the supposed crisis years), the fund is up more than 53 percent. And for the past 10 years, it’s enjoyed a return of more than 109 percent, or an average annual return of 7 percent.
Second is AllianceBernstein National Municipal Income Fund, Inc. (AFB). This firm has had some issues on its equity fund side. But when it comes to bonds, it has some of the best investment pickers; and the numbers prove out. It has earned investors 17 percent over the past year alone, while paying a monthly dividend like the other two funds of 5.6 percent.
And like the Nuveen fund, Alliance has performed well. It generated returns of more than 58 percent for the past five years and of 127 percent for more than 10 years, for an average annual return of 8.6 percent.
Third is BlackRock Municipal Income Trust II (BLE). The monthly dividend is currently yielding 6 percent. And the return for the trailing year is 19 percent, with the five- and 10-year returns running at 63 and 129 percent, giving a 10-year average annual return of nearly 9 percent.
I suggest buying the three together to get the best mix of bonds and fund values that will work well together. You will credit your account with monthly dividend checks that will be taxed less. And you should continue to trade with less combined price volatility and overall long-term price gains from the right munis.
— Neil George
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