Tax exemptions for bonds upheld

In a 7-to-2 decision, the U.S. Supreme Court today ruled that Kentucky can continue to tax out-of-state municipal bonds, while choosing not to tax in-state ones. Kentucky was appealing a 2006 state appellate court ruling that exempting interest income of state municipal bonds from taxation, while taxing income from out-of-state bonds, violates the Commerce Clause. The clause is a restriction that prohibits a state from passing legislation that improperly burdens or discriminates against interstate commerce. A ruling against Kentucky would have changed the muni bond landscape because the tax advantage of owning such bonds would have disappeared. The court, however, declined to extend its ruling explicitly to cover private-activity bonds. Such bonds are municipal bonds issued by a state on behalf of a private entity that serves some sort of public good. They include those issued on behalf of airports, hospitals, housing or economic development. It’s best to “leave for another day any claim that differential treatment of interest on private-activity bonds should be evaluated differently from the treatment of municipal bond interest generally,” the court said in its opinion.