Build America Bonds

BABs or build America bonds are taxable municipal bonds. They first came on the scene in 2009 when President Obama signed the American Recover and Reinvestment Act. The idea was to lower the cost of borrowing in the government sector in order to create more jobs. BABs are basically bonds that are only issued by either the state government or local governments. The interest earned with these types of bonds is subsidized by the U.S. This gave companies incentives to invest and borrow money again for certain government projects. This was greatly needed during the time of the economic slow down.

The current strains that traditional municipal bonds experience during the recession have been relieved by the emergence of BABs. In fact, it is debated whether or not state and local governments would even be able to finance certain projects without using BABs. Projects in the infrastructure field need to be financed regardless of how slow the economy turns down in order to have a functional system. Projects like public schools, transportation, road work, buildings and other types of projects are all funded by municipal bonds. BABs has allowed these government institutions to maintain all these projects at a lower cost than traditional municipal bonds.

The two main types of BABs are known as the “direct payment” and the “tax credit.” Direct payment bonds are paid by the U.S. Treasury to state and local governments. They pay up to 35% of the interest that the bonds may produce. In other words, the U.S. Treasury finances 35% of the coupon’s interest and pays it out to local and state governments. Tax credit works by giving bond holders tax credits up to 35% of the interest that is being earned by these bonds. What does this mean for the average investor and who should invest in BABs?

Any bonds that are subsidized by the federal government are known to create stability within the markets. Foreign investors will take advantage of BABs and other types of bonds. They purchase taxable bonds that pay out interest partially by the U.S. Treasure. This is much like a guarantee for 20 years of a certain amount of interest. However, big corporations and big investors are not the only ones investing in BABs. Since build American bonds have come onto the scene, the individual investor has been taking advantage of the opportunities that are being presented. BABs can be used for pension plans and mutual funds as well.

There are a few facts to consider and all investors should get to know how BABs may be beneficial for their futures. BABs are complex but present interesting opportunities for investors. The longer the investor hangs on to these types of bonds, the more interest they can pay out. Build America bonds are exempt for state taxes within the state of issue. Many investors looking for interest paying investments that are not being taxed by the state government. However, some BABs require the investor to pay federal taxes on the interest that is earned.

Like with any other municipal bonds, BABs has some level of risks that investors ought to be aware of. These risks are the typical risks known as liquidity risks, interest rate risks, credit risks and call risks. Liquidity risks involve not enough investors investing in the bonds that could spark a sell off. Interest rate risks means just what it says, the risk of interest rates changing during the term of the bond. Credit risks involve the issuer defaulting and call risks means at anytime the bonds can be called back. Even though there are risks involved with BAB’s, they still present an opportunity of growth and stability within the markets.

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