Government Bonds Vs Municipal Bonds: Differences You Need To Know

• The central government issues government bonds to fund national-level expenses and repay debts.

• Municipal bonds are floated by local government bodies to finance public infrastructure projects like roads, schools, and sanitation.

• Municipal bonds in India offer attractive tax exemptions, making them ideal for tax-conscious investors.

• Government bonds, though considered tax-free under Section 10, have specific conditions and limits (up to ₹20,000 for certain agencies).

• Government bonds are considered low-risk and highly secure, offering lower but stable returns. 

• Municipal bonds come with higher credit risk but may offer higher yields—suitable for those with greater risk tolerance.

When it comes to investment in bonds, understanding the differences between government bonds vs municipal bonds is essential. Both of these bond types are reliable and provide fixed returns, but the main difference lies in their issuers and purpose. 

While government bonds come with low risk, municipal bonds may provide tax benefits and returns. 

When it comes to fixed-income investments, bonds offer a relatively stable way to grow your wealth while managing risk. Check out the difference between two of the most common types of bonds issued by the Central and local governments.

Issuers and Purposes

The Central Government issues government bonds, which are used to fund their operations and pay debt. On the other hand, local municipal corporations issue municipal bonds to fund public infrastructure projects, such as schools, highways, bridges, etc.

Yields and Returns

Municipal bonds are exempt from central, local and state taxes. However, they offer higher yields if your risk threshold is high. Government bonds also offer risk-free returns but offer lower yields compared to municipal bonds. 

Tax Benefits

One of the crucial benefits of municipal bonds in India is that they are tax-exempt. If you are an investor, follow up with specific rules; the interest generated in municipal bonds is free from taxation. On the other hand, Section 10 of the Income Tax Act declares government bonds to be tax-free. Government agencies such as HUDCO and IREDA issue these up to a maximum of ₹20,000.

Credit Ratings

Municipal bonds have a rating of BBB and more, as per the credit rating agency of India- CRISIL (Credit Rating Information Services of India Limited). These ratings help popularise the credibility of these bonds. Alternatively, CRISIL’s long-term G-Sec ratings are BBB and A3+ for short-term ratings. 

Liquidity and Market Access

The liquidity for government bonds is high as they can be easily traded in the global market. On the other hand, the liquidity of municipal bonds is comparably lower and comes with a higher credit risk.

Trading Volumes and Demand

In January 2025, trading volume in Government Securities increased 12.76% on-month, with T-bills trading volume increasing by 16.68%. However, the trading volume of State Development Loans (SDLs) decreased by 20.32%. Government bonds have a strong domestic demand as they are stable income sources. 

Assessing Your Investment Goal

Depending on your risk appetite, investment term and diversification preference, you can choose which bonds to invest in. When comparing bond yields, you must also consider their returns.

Risk Appetite

Considering your risk appetite, you can choose the bond you must invest in. As municipal bonds have high credit risk tolerance, you can invest in them if your risk acceptance level is lower. On the other hand, government bonds reflect lower risk, and you can invest in them if you cannot bear higher risk. 

Tenure

Government bonds usually do not have a lock-in period, whereas municipal bonds come with a lock-in period of at least 3 years. You can invest in government bonds for 5 to 40 years, whereas municipal bonds allow you to invest for 1-30 years or more. Depending on your short and long-term investment goals, you can invest in these bonds. 

Diversification

While government bonds offer steady returns, municipal bonds provide more tax benefits but come with high risk. Depending on your preferences, you can either invest in them separately or in a mix of both. 

1. Which bond typically offers higher yields?

Corporate bonds offer higher returns as they have low credit ratings. Government and municipal bonds provide lower returns. 

2. Are municipal bonds riskier than government bonds?

Yes. In a comparison of municipal bonds vs G-Sec, the former carry high risks while providing potentially higher returns.  

3. How do tax benefits differ for each type of bond?

The government taxes LTCG on listed bonds at 10% without indexation benefits, while it taxes STCG under the income tax slab. It taxes LTCG on unlisted bonds at 20% without indexation benefits and STCG as per the income tax slab.

4. Can I invest in both government and municipal bonds?

Yes, you can invest in both government and municipal bonds together, as it helps diversify your portfolio.

5. Where can I buy municipal bonds in India?

You can make a municipal bond investment in India through online investment platforms, brokerage firms, the municipality, or a bank.