The market niche comprised of investment vehicles exempt from federal taxes. Nearly all investments in this area are municipal bonds, which cannot be taxed owing to the fact that U.S. law forbids the federal government from taxing debt issues offered by state and local government agencies. These tax exemptions offer investors incentives to purchase low-yield government bonds over higher yielding corporate fixed income securities. 




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Although most municipal bonds are tax-free, this is not always the case, as the tax status sometimes depends on what the bonds are being used for. In addition, many municipal bonds, as well as other tax-exempt investments, offer lower yields than taxable investment options.