A general obligation bond is a common type of

municipal bond A municipal bond, commonly known as a muni, is a Bond (finance), bond issued by state or local governments, or entities they create such as authorities and special districts. In the United States, interest income received by holders of municipal ...

in the

United States The United States of America (U.S.A. or USA), commonly known as the United States (U.S. or US) or America, is a country primarily located in North America. It consists of 50 states, a federal district, five major unincorporated territorie ...

that is secured by a

state State may refer to: Arts, entertainment, and media Literature * ''State Magazine'', a monthly magazine published by the U.S. Department of State * ''The State'' (newspaper), a daily newspaper in Columbia, South Carolina, United States * ''Our S ...

local government Local government is a generic term for the lowest tiers of public administration within a particular sovereign state. This particular usage of the word government refers specifically to a level of administration that is both geographically-loca ...

's pledge to use legally-available resources, including tax revenues, to repay bondholders. Most general obligation pledges at the local government level include a pledge to levy a

property tax A property tax or millage rate is an ad valorem tax on the value of a property.In the OECD classification scheme, tax on property includes "taxes on immovable property or net wealth, taxes on the change of ownership of property through inheri ...

to meet debt service requirements, and holders of general obligation bonds then have a right to compel the borrowing government to levy that tax to satisfy the local government's obligation. Because property owners are usually reluctant to risk losing their holding from unpaid property tax bills,

credit rating agencies A credit rating agency (CRA, also called a ratings service) is a company that assigns credit ratings, which rate a debtor's ability to pay back debt by making timely principal and interest payments and the likelihood of default. An agency may ra ...

often consider a general obligation pledge to have very strong credit quality and frequently assign them

investment grade In investment, the bond credit rating represents the credit worthiness of corporate or government bonds. It is not the same as an individual's credit score. The ratings are published by credit rating agencies and used by investment professionals ...

ratings. If local property owners do not pay their property taxes on time in any given year, a government entity is required to increase its property tax rate by as much as is legally allowable in a following year to make up for any delinquencies. Between the taxpayer delinquency and the higher property tax rate in the following year, the general obligation pledge requires the local government to pay debt service coming due with its available resources.

Types

State law generally sets the conditions under which a local government can issue general obligation debt, including the type of security that is available: * A limited-tax general obligation pledge requires a local government to levy a property tax sufficient to meet its debt service obligations but only up to a statutory limit. Generally, local governments already levy a property tax and can choose to use a portion of the property tax it already levies, use some other revenue stream, or increase its property tax by an amount equal to its debt service payments. * An unlimited-tax general obligation pledge is identical to a limited-tax pledge except that the local government is required to levy a rate at whatever level is necessary, theoretically up to 100%, to recover a shortfall from taxpayer delinquencies. An unlimited-tax pledge must often follow a voter authorization in which local residents agree to raise property taxes by an amount equal to debt service requirements over the life of the bonds. That feature provides the political advantage of voter affirmation of the use of the bonds and allows the local government to avoid raising its property tax directly or to find room in its budget to pay for debt service.{{cite web, url=https://www.investopedia.com/terms/u/unlimited-tax-bond.asp, title=Unlimited Tax Bond, first=James, last=Chen, website=Investopedia, accessdate=29 April 2019 All things being equal,

and investors can consider an unlimited property tax pledge to be materially stronger than a limited-tax pledge. That perception could thus potentially allow a local government to borrow at a lower

interest rate An interest rate is the amount of interest due per period, as a proportion of the amount lent, deposited, or borrowed (called the principal sum). The total interest on an amount lent or borrowed depends on the principal sum, the interest rate, th ...

, saving its taxpayers' money over the life of the bonds. Despite that advantage, many states, such as California under

Proposition 13 Proposition 13 (officially named the People's Initiative to Limit Property Taxation) is an amendment of the Constitution of California enacted during 1978, by means of the initiative process. The initiative was approved by California voters on J ...

, do not allow local governments to issue unlimited-tax general obligation debt without a public

vote Voting is a method by which a group, such as a meeting or an electorate, can engage for the purpose of making a collective decision or expressing an opinion usually following discussions, debates or election campaigns. Democracies elect holde ...

References

Bonds (finance)