The Securities Industry and Financial Markets Association urged a House Ways and Means Committee tax reform working group to leave municipal bonds alone, warning that tax credit bonds would not be an effective alternative.

"The value of families' savings would be eroded significantly if Congress retroactively imposed a full or partial tax on municipal interest," SIFMA said in a 38-page white paper that covered other tax issues as well. "The tax exemption is better than direct subsidies for infrastructure investment because bonds must be repaid, forcing a market test of the project's viability."

SIFMA stressed that the use of tax-exempt bonds saves municipalities approximately 2% to 3% on their borrowing costs relative to taxable bonds. In addition, the use of financing with municipal bonds encourages more infrastructure investment, the group said.

SIFMA pointed out that tax-exempt bonds are bought widely by individual investors because they offer attractive, low-risk returns. "In SIFMA's experience, tax credit bonds of the type where the credit accrues to investors have not achieved the level of market acceptance as traditional municipal bonds, so a wholesale transition to tax credit bonds would be risky for the market and for issuers," the group said in the paper.

The group detailed several proposals they oppose that would curtail or eliminate tax exemption to raise revenues for the federal government. The first such proposal was the Simpson-Bowles commission report from 2010 which considered eliminating all future tax-exempt bond issuance.

In his fiscal year 2014 budget, President Obama included an earlier proposal to cap the value of tax exemption at a 28% rate, another idea SIFMA opposes.

The 28% cap would nominally affect high income earners in the long run, but the longer term impacts would be felt at the state and local level in the form of higher financing costs, SIFMA warned.

"An unprecedented and particularly damaging aspect of the administration's proposal is that it would apply not only to newly issued or acquired bonds but also to outstanding bonds as well," SIFMA said. "The negative effects of the proposal would extend to lower income investors through a reduction in the market value of their bonds."

SIFMA also said that the president's 28% cap proposal is inconsistent with other elements in his budget which were designed to promote infrastructure investment, such as the American Fast Forward bond program.

AFF bonds, similar to the now-expired taxable Build America Bonds, would have a 28% subsidy rate.

"Given their recent experience with BAB subsidies, some issuers have expressed reservations about market acceptance of the president's new approach, because of the different characteristics of taxable investors," SIFMA told the group.

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