A municipal bond is a debt obligation issued by a local authority with the promise to pay the bond interest on a speci?ed payment schedule and the principal at maturity.
They can be either general obligation bonds, where the principal and interest are guaranteed by the issuer’s overall tax revenues or they can be revenue bonds, where the principal and interest are secured by revenues from a particular project of the ULBs. It could be derived from tolls, charges or rents from the facility built with the proceeds of the bond issue.
The two basic types of municipal bonds are:
• General obligation bonds: Principal and interest are secured by full faith and credit of the issuer and usually guaranteed by either the issuer’s unlimited or limited tax paying power.
• Revenue bonds: Principal and interest are secured by revenues of ULBs derived from tolls, charges or rents from the facility built with the proceeds of the bond issue. Public projects financed by revenue bonds include toll roads, bridges, airports, water and sewage treatment facilities, hospitals and subsidised housing.
The market for municipal bonds in India is almost non-existent unlike US and many developing countries like Russia, Mexico, where it is one of the principal mode of financing urban infrastructure.
The Government of India allowed ULBs to issue tax-free municipal bonds in 1999-2000 and has amended the Income Tax Act (1961 vide the Finance Act 2000) inserting a new clause (vii) in Section 10(15), whereby interest income from bonds issued by local authorities was exempted from income tax.
The GOI issued guidelines for issue of tax-free municipal bonds in February 2001. It has been clearly specified that the funds raised from these tax-free municipal bonds are to be used only for capital investments in urban infrastructure like potable water supply, sewerage or sanitation, drainage, solid waste management, roads, bridges and flyovers; and urban transport.
Ahmedabad Municipal Corporation (AMC) was the first ULBs in India to issue tax-free municipal bonds for water and sewerage projects. In April 2002, AMC issued a tax-free 10-year bonds worth Rs 1000 crore followed by Tamil Nadu Urban Development Fund (TNUDF) in 2003 which issued a bond by pooling 14 municipalities for commercially viable water and sewerage infrastructure projects. Subsequently, the Government of Karnataka used the concept of pooled financing to raise debt from investors for the Greater Bangalore Water Supply and Sewerage Project (GBWASP).
On July 2015, SEBI notified a new regulatory framework for issuing municipal bonds in India for streamlining the system of the municipal bond market in India.
Some main features include
• Investment grade ratings for ULBs,
• No default in last 365 days and positive net worth,
• A mandated guarantee from the State Government or Central Government,
• Compliance with the state’s municipal account standards or the National Municipal Accounts Manual to be eligible for the issue, etc.