Tuesday, November 12, 2013

November 10, 2013

Puerto Rico a cause for concern for Michigan investors


 Over the years, I can’t tell you how many times I’ve heard people claim that they don’t pay any income tax. When I question them and ask them for a look at their pay stub, it shows that Uncle Sam is indeed getting a substantial cut.

What these individuals don’t seem to understand is that they have enough taxes withheld from their paycheck, so that they’re not required to pay any additional tax when they file. They may even receive a tax refund. But, in reality, they’ve already sent plenty of money to Washington with every paycheck.

Over the past few months I’ve talked to a lot of people who are angry about taxes. The anger isn’t so much about the amount they pay, but rather about the inexcusable misuse of tax dollars in the form of spending snafus, cost overruns and just plain wasteful spending.

It seems that those in Washington are simply poor stewards of our tax dollars. They continue to spend recklessly and then at election time claim we need more tax dollars for teachers, policemen and infrastructure. The question that needs to be asked is how many teachers and policemen could be hired if they stayed within their budgets.

I speak of taxes today because many people turn to municipal bonds to help ease their tax burden. For most people, interest on municipal bonds is free from federal income taxes. If you’re a Michigan resident and own a Michigan municipal bond, the interest is free of both federal tax and Michigan state tax. However, for certain investors, interest may be subject to local taxes or federal alternative minimum tax.

That tax-free status makes municipal bonds very popular. But, as with any investment, they carry risk. For example, it’s likely that many Detroit bondholders will suffer losses as a result of the default.  And, of course, the market value can change on a daily basis.

So if you’re a Michigan resident who owns Michigan tax-free bonds within a mutual fund or unit investment trust, there’s something you need to do. Take a very close look at your holdings.
We’re all aware of Michigan’s past economic issues and our current rebound. But the real potential to hurt many investors in Michigan bond portfolios is not even a Michigan problem. The problem is Puerto Rico. Yes, Puerto Rico, a territory of the United States.

Puerto Rico is having significant financial problems. Many Puerto Rican bonds are at or near junk status according to various rating agencies. Most people are not aware that federal and state tax-free Puerto Rican bonds have a way of finding their way into various state portfolios.

For example, I recently came across a State of Michigan tax-free bond portfolio that had more than 20 percent of its portfolio in Puerto Rican bonds. In other words, the label of the portfolio doesn’t fully describe the contents.  If the Puerto Rican bonds default, there will be a lot of surprised Michiganders.

Portfolio managers of Michigan bond portfolios may have purchased Puerto Rican bonds to help boost returns. Unfortunately, the financial problems brewing in Puerto Rico are buried in the news. That tiny U.S. territory is on the brink of causing a lot of havoc for investors throughout our nation. If you own a Michigan tax-free portfolio, please check to make sure all of its holdings are indeed within our great state.

Fax your questions to Ken Morris at 248-952-1848 or email to ken.morris@investfinancial.com. Ken is a registered representative of INVEST Financial, member FINRA, SIPC and is vice president of the Society for Lifetime Planning in Troy. All opinions expressed are those of Ken Morris. INVEST and Society for Lifetime Planning are independent companies.

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