Tax Free Municipal Bonds

Municipal authorities can take up larger projects by raising substantially higher amounts through tax free bonds, if the urban development ministry has its way.
The urban development ministry has proposed to raise the amount a municipal body can raise as tax free municipal bonds for a specific project to Rs 600 crore from the present Rs 300 crore.It is also proposed that the local bodies would be allowed to raise 100% of funds required for a project as against the present 50%. Although, there is no cap on the amount a municipal body can raise as bonds, the ministry has stipulated a cap on individual projects.
The move is expected to give a fillip to a rather sluggish tax free municipal bonds market, which has seen just 13 such floats in the last eight years. Moreover, only eight municipal bodies, out of about 4,000 such local bodies in the country, have come out with these bonds so far.
Various government estimates have shown Indian cities would require an investment of over Rs 1,180 billion (that is about 20% of the central government's annual budget), to upgrade their key infrastructure in the next 10 years. So the government would not be in a position to pump in the entire investments required. The local authorities are reluctant to go in for municipal bonds as they find it difficult to meet the stringent government conditions such as that the project should generate enough revenue to finance operating and management cost.Another condition that local bodies find difficult to meet is that municipal bodies have to get an investment grade rating from a credit rating agency. The precondition that the municipalities have to maintain a debt service coverage ratio of 1.25 throughout the tenor of the tax-free bond has also acted as a major deterrent.