Land Secured Muni Bonds
Tax (Photo credit: 401(K) 2012)
Municipal securities in general have suffered losses recently due to investors' fears about the finances of state and local governments. The recent bankruptcies of California cities (Stockton, Mammoth Lakes and San Bernardino) have not helped investor confidence.
One interesting type of municipal security is land-secured bonds. These are bonds issued by local agencies, such as cities or school districts for the improvement of real property (construction of infrastructure, schools, etc.). The bonds are typically secured by a property tax lien on the land benefiting from the improvements. The property tax lien is senior to any mortgage that can be placed on the property and so provides the owner of the bond with a strong probability that the principal will be repaid. Where the land is largely undeveloped, these types of bonds can be risky. However, where the land is developed or undergoing steady development and land values are stable or increasing (select sub-markets of Southern California, for example), these can be very good investments particularly as general market conditions have driven-up yields across the board. Sometimes, these types of bonds are not rated by the rating agencies (Moody's, Fitch or Standard and Poors). You need to read the "Official Statement" that accompanies each municipal bond deal to learn more about the potential risks. One key factor is the "Lien to Value Ratio" which is an indicator of how much all the tax liens on the property ("Direct and Overlapping Debt") are as a percentage of the assessed value of the property. The lower the lien to value ratio, the better.
A major advantage is that many municipal bonds are exempt from Federal taxes (including the Federal Alternative Minimum Tax) and may also be exempt from state taxes. For example, for someone who lives in California, with $150,000 of taxable income, a 7% municipal bond yield is equivalent to a 10.75% taxable yield.
If you are interested in these types of investments, Stone and Youngberg is a good source of information. They are a major trader and underwriter of municipal bond deals and they also offer trading accounts for individual investors (you may have to meet suitability qualifications first).
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