Revenue Bond
Definition: A revenue bond is a type of municipal bond issued to fund public infrastructure projects that are expected to generate revenue. These bonds are repaid solely from the income generated by the specific project they finance. Unlike general obligation bonds, revenue bonds are not backed by the full faith and credit of the issuing municipality but rely on the project’s operational revenue.
Examples of Revenue-Bond-Financed Projects:
- Toll Bridge:
- A bridge that collects tolls from vehicles to generate revenue.
- Highway:
- A toll highway that generates income from the fees charged to users.
- Educational Facility:
- A university campus extension financed through student fees and other incomes derived from its services.
- Hospital:
- A public hospital funded by the revenue from patient services and other medical fees.
- Sewer System:
- A city sewer project where the repayment is sourced from utility fees charged to users.
- Stadium:
- A sports stadium financed by ticket sales, naming rights, and other events-generated revenue.
Frequently Asked Questions (FAQs):
What distinguishes revenue bonds from general obligation bonds?
Revenue bonds are repaid from the income generated by the specific project they fund, while general obligation bonds are repaid through the issuing municipality’s taxation powers, backed by its full faith and credit.
Are revenue bonds considered less secure than general obligation bonds?
Yes, because revenue bonds depend on the financial success of a specific project rather than the broader creditworthiness of the issuing municipality, making them typically riskier investments.
Can revenue bonds be used to fund any type of project?
Revenue bonds are typically used to fund revenue-generating projects that serve a public need and are expected to produce a predictable income stream.
What happens if the project financed by revenue bonds fails to generate sufficient revenue?
If the project does not generate enough revenue to cover bond payments, the bondholders may not receive their expected returns, leading to potential defaults.
Do revenue bonds offer tax advantages?
Yes, like other municipal bonds, interest income from revenue bonds is often exempt from federal income tax and possibly state and local taxes, depending on the jurisdiction.
Related Terms:
- Municipal Bond:
- A debt security issued by a state, municipality, or county to finance its capital expenditures, including schools, highways, and other public projects.
- General Obligation Bond:
- A municipal bond backed by the credit and taxing power of the issuing jurisdiction, rather than the revenue from a specific project.
- Debt Service:
- The total amount of money needed for repayment of principal and interest on outstanding loans or bonds during a period of time.
- Credit Rating:
- An evaluation of the creditworthiness of a borrower in general terms or with respect to a particular debt or financial obligation.
Online References:
- Investopedia on Revenue Bonds
- Municipal Securities Rulemaking Board (MSRB)
- Securities and Exchange Commission (SEC)
Suggested Books for Further Studies:
- “The Fundamentals of Municipal Bonds” by SIFMA (Securities Industry and Financial Markets Association)
- “Municipal Bond Markets: A Guide for Analysts and Investors” by David W. Johnson
- “Investing in Income Properties: The Big Six Formula for Achieving Wealth in Real Estate” by Kenneth D. Rosen
Fundamentals of Revenue Bonds: Finance Basics Quiz
### What is the primary source of repayment for a revenue bond?
- [x] The revenue generated by the project the bond finances.
- [ ] The taxing power of the issuing municipality.
- [ ] State or federal grants.
- [ ] Donations from non-profits.
> **Explanation:** Revenue bonds are repaid solely from the income generated by the specific project they finance, such as tolls from a toll bridge or fees from a sewer system.
### Which type of bond does not depend on a specific project's income for repayment?
- [ ] Revenue bond
- [x] General obligation bond
- [ ] Convertible bond
- [ ] Junk bond
> **Explanation:** General obligation bonds are backed by the full faith and credit of the issuing municipality and are repaid through its taxation powers, not the income from a specific project.
### What type of risk is generally higher in revenue bonds compared to general obligation bonds?
- [x] Project-specific risk
- [ ] Inflation risk
- [ ] Liquidity risk
- [ ] Market risk
> **Explanation:** Revenue bonds face higher project-specific risk because their repayment depends on the financial success of the specific project they finance.
### What is a common feature of municipal bond interest payments?
- [ ] They are always taxable at the federal level.
- [x] They are often exempt from federal income tax.
- [ ] They are always issued at variable interest rates.
- [ ] They require complex hedging instruments to manage risk.
> **Explanation:** Interest income from municipal bonds, including revenue bonds, is often exempt from federal income tax, and sometimes from state and local taxes, making them attractive to certain investors.
### If a revenue bond-financed hospital generates surplus revenue, what happens to the extra funds?
- [ ] It must be returned to bondholders as a bonus.
- [ ] It can only be used for debt service.
- [x] It can be reinvested in the hospital or used to enhance services.
- [ ] It must be distributed to the municipal government.
> **Explanation:** Surplus revenue generated by the project can typically be reinvested in the project or used to improve services, once debt service obligations are met.
### Why might an investor choose a general obligation bond over a revenue bond?
- [ ] Higher potential returns
- [ ] Exposure to specific projects
- [x] Lower financial risk
- [ ] Greater tax benefits
> **Explanation:** Investors might prefer general obligation bonds due to their lower financial risk because they are backed by the broad credit and taxing power of the issuing municipality.
### How is the credit rating of a revenue bond typically determined?
- [ ] By the general financial condition of the issuing municipality.
- [x] By the projected revenue-generating ability of the funded project.
- [ ] By state auditors.
- [ ] By federal government assessments.
> **Explanation:** The credit rating of a revenue bond depends largely on the anticipated revenue-generating ability of the specific project being financed.
### Which type of infrastructure project is least likely to use revenue bonds for financing?
- [ ] Toll bridge
- [ ] Municipal stadium
- [ ] City sewer system
- [x] Local government office buildings
> **Explanation:** Local government office buildings typically do not generate revenue and are therefore less likely to use revenue bonds for financing compared to revenue-generating projects like toll bridges or sewer systems.
### Which factor can increase the risk associated with revenue bonds?
- [ ] Government stability
- [x] Project underperformance
- [ ] Lower interest rates
- [ ] Higher tax revenues
> **Explanation:** Project underperformance, or the failure of the project to generate the anticipated revenue, can significantly increase the risk associated with revenue bonds.
### What incentive might municipalities have for issuing revenue bonds?
- [ ] To decrease their overall debt levels
- [x] To finance projects without raising taxes
- [ ] To increase their credit rating
- [ ] To avoid property taxes
> **Explanation:** Municipalities issue revenue bonds to finance specific projects without relying on tax increases, thereby managing public debt levels independently of the project revenues.
Thank you for exploring the intricate world of revenue bonds and honing your finance knowledge through our engaging quiz. Keep pursuing financial excellence!
