While municipal bonds (or muni’s) are generally a conservative, safer option that investing in stocks or junk bonds, investing in municipal bonds is not without risks. Accordingly, FINRA has created the following checklist to help investors avoid some of the most common pitfalls of municipal bond investing.
This checklist can also accessed at: http://www.finra.org/Investors/ProtectYourself/InvestorAlerts/Bonds/P118925)
– Verify the type of bond (general obligation vs. revenue), and make sure you understand the bond’s terms and risk factors (not all municipal bonds are created equal);
– Ask to see—and read or have your financial advisor review with you—the bond’s Official Statement before you purchase a bond, particularly if it is a new issue. The Official Statement will be a valuable tool for understanding the terms of any bond you might buy in the secondary market, but be aware that the financial and operating data may have been superseded by the issuer’s on-going disclosures;
– Confirm with your financial advisor whether the issuer is current in its disclosure filings and be sure to review the information in the on-going disclosures (Be wary of bonds whose issuers are not current in their disclosure filings as this may be evidence that the bond is susceptible to default);
– Keep tabs on your bond’s credit rating and the issuer’s creditworthiness. For example, has the issuer of the bond recently been downgraded? Has the issuer filed any default or other material event notices? Changes in the bond’s credit rating or the issuer’s creditworthiness may be evidence that the bond is susceptible to default;
– If the bond is insured or otherwise backed by a third-party, verify the credit rating of the bond insurer or other backing;
– If you buy a bond in the secondary market, be sure to ask why the bond is priced as it is. Be aware that the price of a bond can be priced above or below its par value for many reasons, including changes in the creditworthiness of a bond’s issuer and a host of other factors, including prevailing interest rates (i.e. lower rated bonds are usually purchased at a discount for a reason);
– Understand how the bond’s interest will be paid. Most muni bonds pay semiannually, but zero coupon municipal bonds pay all interest at the time the bond matures and the principal is returned. Variable rate bonds typically will pay interest more frequently, usually on a monthly basis in variable amounts. These are considerations if the financial advisor has advised you to purchase a municipal bond to provide current income because you will want to make sure that the interest is paid when you need the cash;
– Understand the municipal bond’s tax implications, including the possibility that your bond may be subject to the federal Alternative Minimum Tax (AMT) or may be fully taxable. Also understand whether the bond enjoys any state tax benefits. Consider consulting a tax professional before buying a municipal bond because its tax implications may affect whether the bond is suitable for you;
– Know a bond’s call provisions. Call provisions allow the issuer to retire the bond before it matures. You can find the call provisions in the Official Statement;
– Know what you are paying for your bond, which will be reported on your confirmation statement. Most bonds are sold without a commission (instead, the broker usually is compensated through a dealer’s spread, or profit, which is included within the price). If a commission is charged, this will also be reported on your confirmation statement. As always, you will want to make sure that the financial advisor’s motivation in recommending the municipal bond is not the commission that he/she is deriving from the purchase;
– Review your confirmation statement after the purchase of the municipal bond to be sure the information is accurate and in line with what you were told by your financial and what was contained in the Official Statement.
If you are concerned that you have been the victim of securities fraud related to municipal bonds or some other investment vehicle, we may be able to help. To speak to a securities attorney, please call The White Law Group at 312/238-9650.
The White Law Group, LLC is a national securities fraud, securities arbitration, investor protection, and securities regulation/compliance law firm with offices in Chicago, Illinois and Boca Raton, Florida.
For more information on The White Law Group, please visit our website at http://www.whitesecuritieslaw.