Bonds are often sold to raise money for water resources project investments. Each bond is a

promise to pay a specified amount of interest, usually semiannually, and to pay the face value of

the bond at some specified future date. The selling price of a bond may differ from its face

value. Since the interest payments are specified in advance, the current market interest rates

dictate the purchase price of the bond.

Consider a bond having a face value of $$10,000,$ paying $$500$ annually for $10$ years. The bond or

"coupon" interest rate based on its face value is $500/10,000,$ or $5\%.$ If the bond is purchased for

$$10,000,$ the actual interest rate paid to the owner will equal the bond or "coupon" rate. But

suppose that one can invest money in similar quality $($equal risk$)$ bonds or notes and receive $10\%$

interest. As long as this is possible, the $$10,000,5\%$ bond will not sell in a competitive market. In

order to sell it$,$ its purchase price has to be such that the actual interest rate paid to the owner

will be $10\%.$ In this case, show that the purchase prill be $$6927.$

The interest paid by some bonds, especially municipal bonds, may be exempt from state and

federal income taxes. If an investor is in the $30\%$ income tax bracket, for example, a $5\%$

municipal tax$-$exempt bond is equivalent to about a $7\%$ taxable bond. This tax exemption helps

reduce local taxes needed to pay the interest on municipal bonds, as well as providing attractive

investment opportunities to individuals in high tax brackets.