Investors prefer bond investments because they offer a steady source of income. Similarly, they are not subject to the same risks that come with stock investments. However, bonds come in different forms. Therefore, investors may find it tricky to choose the right option for them. They also come from several sources, such as municipal and corporate bonds.
What are Municipal Bonds?
Municipal bonds are debt instruments issued by government bodies, such as a state, municipality, or county. These bodies issue municipal bonds to finance their projects or capital expenditures. For example, some governments may issue bonds to raise finance for transportation structures, such as railways.
There are different types of municipal bonds that governments may issue, including general obligation and revenue bonds. General obligation bonds are not backed by revenues. Governments use these bonds to raise finance for projects that don't generate income. Revenue bonds, on the other hand, come backed by revenues. Governments issue these for projects that generate income.
Like any other types of bonds, municipal bonds also generate regular interest income for investors. However, investors may also get other advantages associated with municipal bonds that they can’t get for other bonds.
What are Corporate Bonds?
Corporate bonds are debt instruments issued by large companies to finance their projects. Companies that issue these bonds agree to pay their investors after a specific period of time. Similarly, they offer investors a fixed and steady source of income in interest payments. When investing in corporate bonds, investors trust the company to repay the bond in full at maturity.
Corporate bonds come with higher interest rates as compared to municipal bonds. It is because they also have a higher risk that investors must agree to take. Similarly, these bonds are more common in the market due to their prominence. Corporate bonds come in various structures that may bring other benefits to the investors as well. For example, some corporate bonds come with conversion options, allowing investors to convert their bonds into common stock.
Corporate bonds are also a great investment for investors. However, these bonds come with higher credit risks compared to municipal bonds. Risk-averse investors are less likely to prefer corporate bonds over municipal bonds.
What are the differences between Municipal and Corporate Bonds?
While both are types of bonds, municipal and corporate bonds have several differences.
Risk
The most crucial difference between municipal bonds and corporate bonds is the risk. Municipal bonds come with risks but are comparatively lower than corporate bonds.
Returns
It is common knowledge in finance that higher risks come with higher rewards. Therefore, corporate bonds bring more returns for investors compared to municipal bonds.
Liquidity
Despite the lower risks, municipal bonds are less liquid. It is because corporate bonds are more common and traded on bond markets in high volumes. The same does not apply to municipal bonds.
Taxation
Municipal bonds may come with several tax advantages, depending on the jurisdiction. For example, the interest that investors earn on these bonds is tax-exempt. Therefore, investors don't have to include these in their income. For corporate bonds, there are no specific tax benefits.
Conclusion
Based on the issuer, bonds can come in different classifications. The most prevalent among these are municipal and corporate bonds. Municipal bonds come from government bodies, such as states, municipalities, or counties. On the other hand, large companies issue corporate bonds. There are some differences between both, as discussed above.
Originally Published Here: Municipal Bond vs Corporate Bond
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