Income from state and local obligations (municipal interest), which is tax-free in the United States, is not excluded from the Illinois Income Tax unless law specifically provides for it.
Is the interest on municipal bonds taxable to the state?
Residents of the issuing state are generally excluded from federal and state taxes on income earned from municipal bonds. While interest income is tax-free, any capital gains delivered to the investor are taxable.
Is investment income taxed in Illinois?
Illinois does not tax interest or dividends unless they come from a business. Illinois taxes federally tax-exempt interest income received as part of a company operated in the state.
What kind of municipal bonds are tax-exempt?
If municipal bonds ETFs hold exclusively tax-exempt bonds, they are normally tax-free on both the federal and state levels. However, if the municipal bond ETF includes both tax-free and taxable interest, federal and state taxes may be required.
Is there a tax on municipal bonds?
The fact that municipal bonds are tax-free in the United States is a major selling feature. That is, interest payments are not subject to federal taxation.
In New Jersey, are municipal bonds taxable?
The main issues for investors considering municipal bond funds were explored in a previous post. National Muni Bond ETFs are a low-cost and straightforward approach to participate in municipal bonds. When municipal bond closed-end funds (CEFs) are trading at an especially substantial discount to their portfolios’ net asset values, they can be a more appealing way to invest in the area. This essay, written exclusively for New Jersey taxpayers, compares the most appealing New Jersey municipal bond mutual funds and CEFs against national ETFs and CEFs.
Income Taxes in New Jersey
Municipal bond interest is not taxed at the federal level.
Furthermore, interest on municipal bonds issued by municipalities within their own state, including bonds issued by the state, is generally exempt from taxation.
New Jersey levies a 6.37 percent tax on income between $75,000 and $500,000, and an 8.97 percent tax on income exceeding $500,000.
For NJ investors, the goal of this article is to examine the relative attractiveness of national muni bond funds and NJ muni bond funds.
The yields on the NJ-specific muni funds have been grossed up by 6.37 percent to make fair comparisons.
New Jersey Municipal Bond Mutual Fund is a mutual fund that invests in municipal bonds in New Jersey.
The Vanguard New Jersey Long-Term Tax-Exempt Fund (VNJTX) is a mutual fund that invests in municipal bonds issued by the state of New Jersey.
It is actively managed, yet it stays extremely close to the Bloomberg Barclays NJ Muni Fund Index, which is its benchmark index.
It has a relatively low cost-to-income ratio.
17% of the total
VNTJX had a 3.41 percent yield as of May 31, 2019.
When the yield is increased by 6.37 percent, the adjusted yield is 3.64 percent.
The fund has a 5.1-year duration.
This is our best NJ muni mutual fund because it is managed almost like an index fund, captures the NJ muni market well, and has an extremely low expense ratio relative to competing products.
Municipal Closed-End Fund of New Jersey
The BlackRock MuniHoldings New Jersey Quality Fund is now our favorite municipal bond fund in New Jersey (MUJ).
The following are some of the reasons why we appreciate it:
- Our proprietary CEF return forecasting methodology predicts a high expected residual return.
ETFs that invest in municipal bonds on a national level. We include two very large and liquid low-cost national municipal bond exchange-traded funds (ETFs) that we have highlighted in previous articles for comparison purposes: iShares National Muni Bond ETF (MUB) and Vanguard Tax-Exempt Bond ETF (VTEB). Both are index funds that are passively managed and track the same benchmark index, the S&P National AMT-Free Municipal Bond Index, therefore their features and holdings are very similar. We also include the iShares iBonds Sep 2020 Term Muni Bond ETF (IBMI) to reflect the short end of the national muni market in order to define the muni yield curve.
The National Muni CEF is a non-profit organization dedicated to improving public transportation in
In addition, we include AllianceBernstein National Municipal Income Fund, our current favorite national muni CEF, for comparison purposes (AFB).
AFB, like most national muni CEFs, has a substantially longer duration than VTEB and MUB, the two key national ETFs.
NAV Discount at MUJ.
MUJ’s NAV was $15.82 on May 31, 2019, and its price was $13.92, thus it was trading at a 12.0% discount to NAV(/15.82).
For a price of $13.92, that’s a value of $15.82.
That NAV’s worth is unquestionably strong.
The portfolio of AFB is neither subjective nor difficult to value.
It is made up of municipal bonds that are traded on the open market.
Even if the NAV discount never goes away, the investor benefits from the whole $15.82’s economic value and ability to generate cash flow.
The dividend rate would have been 3.98 percent (.0525 x 12 / 15.82) instead of 4.53 percent if AFB had traded at its NAV of $15.82 on May 31, 2019.
That’s a.55 percent increase in yield just for buying on the cheap!
NAV Discount is a value factor.
We are unable to discuss all of our unique factors in detail.
However, we’ll take a closer look at the one we think is most important: the NAV Discount.
Purchasing a CEF at a discount to its portfolio’s NAV is clearly a value strategy.
According to our research, the NAV discount factor is the most powerful CEF selection factor we have.
One of our study tests for this factor is depicted in the graph below.
We start our experiment at the end of 2012, when FactSet first made NAV data available.
We create a “Top 5” portfolio of the five CEFs with the greatest NAV discounts at the conclusion of each month.
Each carries a 20% weight.
We calculate the portfolio’s monthly residual return, then re-select and rebalance the “Top 5” portfolio at the end of the following month, and so on.
Similarly, we create a “Bottom 5” portfolio of the five CEFs with the smallest, or most negative, NAV discounts at the end of each month, re-selecting and rebalancing monthly.
Model in general.
Within the national closed-end muni fund universe, we offer test results for our overall return predicting model.
This covers the effects of all the components we use to forecast residual return, as well as the effects of systematic return factors, such as distribution yield.
The blue line is the monthly rebalanced cumulative log of total return (not residual return) of an equal-weighted portfolio of the five single-state muni CEFs with the best total return forecasts.
Since 2012, the average log of total return per year has been 9.0 percent.
The orange line does the same thing as the blue line, except it invests in the five stocks with the lowest (or most negative) total return estimates.
The return on that investment was -8.7%.
The green line depicts the strategy’s long-to-short implementation.
It has an annual return of 17.6 percent.
On both the long and short sides, the results have been robust and constant.
CEFs are superior.
From a yield/risk perspective, we’ve already seen that the NJ mutual fund, VNJTX, outperforms the basic national muni ETFs, VTEB/MUB.
A comparison of their overall return/risk tradeoffs is shown in the graph below.
The two CEFs are preferable to the ETF alternatives in that they are presently substantially above the muni yield curve, thanks to our exclusive CEF alpha forecasts.
The option you choose is determined on the interest rate outlook.
This graph differs slightly from the yield/risk tradeoffs graph above.
In our alpha model, AFB has a very high total return forecast.
The total return prediction for MUJ isn’t quite as optimistic.
Furthermore, MUJ has a very long duration.
Bottom line:AFB is a more appealing muni fund than MUJ, and it is our preferred muni fund for New Jersey residents (despite the fact that it is a nationwide fund rather than a New Jersey-specific fund) who are ready to take on the interest rate risk.
Investors who expect interest rates will rise in the future may pick the VNJTX NJ municipal mutual fund.
Is Illinois an excellent place to retire?
For retirees, Illinois is a tax-friendly state! In Illinois, practically all retirement income, including social security benefits, pension income, and income from retirement savings accounts, such as 401(k)s, is tax exempt.
In Illinois, are Roth conversions taxable?
Depending on where they live, taxpayers considering a Roth IRA conversion may also need to consider other state-related concerns.
Problems with filing. A number of states allow taxpayers to submit joint federal and state returns. Taxpayers should be advised, however, that if they converted in 1998 and live in a state that follows the federal Roth IRA regulations to the letter, they will be forced to file combined federal and state returns for the years 1998 through 2001, which may be inconvenient. In Montana, for example, it is normally preferable for a two-earner married couple to file separate state tax returns. While Montana follows the federal regulations for Roth IRA conversion eligibility, CPAs must take into account the state’s specific filing requirements. Married couples who converted in 1998, in particular, must submit joint state tax returns until 2001. In addition, taxpayers who convert in subsequent years must file a combined state tax return in the year of conversion.
State tax obligations that are still outstanding. CPAs should investigate whether unique regulations apply to people who relocate after converting to a Roth IRA. Even if they relocate to different jurisdictions during the four-year amortization period, several states intend to hold individuals accountable for the four years of state taxes payable from a 1998 Roth IRAconversion. Louisiana and New York advise taxpayers who converted in 1998 that even if they relocate out of state, they still owe state taxes. For example, for state tax purposes, New York taxpayers who converted in 1998 would normally include only one-quarter of the conversion income. If the taxpayer leaves New York during 1999, however, the remainder of the conversion income must be included in New York taxable income immediately.
Conversions are tax-free. CPAs’ tax preparation takes on a new dimension thanks to Illinois tax law. Illinois taxpayers have long benefited from a unique IRA benefit: the state follows federal law on the deductibility of traditional IRA contributions but does not follow it when it comes to taxing withdrawals. Distributions from previously tax-favored conventional IRAs are specifically excluded from statetaxable income in Illinois. In addition, Illinois does not follow federal tax law when it comes to converting a standard IRA to a Roth IRA. The amount included in an individual’s federal AGI as a result of a conversion is not taxable in Illinois.
There are a few exceptions. Certain portions of withdrawals from or rollovers to Roth IRAs are excluded from income in several jurisdictions. For example, New York exempts up to $20,000 of IRA income from federal taxation for taxpayers aged 59 12 or older. North Carolina exempts up to $2,000 from a traditional to a Roth IRA rollover.
Roth IRAs are not recognized. Arkansas does not recognize Roth IRAs under existing law. In fact, Arkansas treats Roth and standard IRAs the same as any other taxable savings account, levying a tax on all IRA earnings.