| After the past year of massive turmoil in the | | | | so that muni bonds make sense for investors |
| economy and the markets, investors are | | | | even in some of the lower tax brackets. |
| wondering where they can invest that is relatively | | | | Where Should I Own Them? |
| safe and smart and provide a higher return than | | | | Muni bonds should be owned in your taxable |
| cash. Tax-free municipal bonds can provide some | | | | brokerage accounts, and not in your IRA or 401K |
| stability and a reasonable after-tax return for | | | | accounts because income in those accounts is |
| many investor portfolios. It is a virtual certainty | | | | already tax-deferred. |
| that income tax rates will be going up (especially | | | | Tax-Equivalent Yield? What's that? |
| for the "rich") over the next few years to pay | | | | To compare the yield on a muni bond to a |
| for all the huge government borrowing and | | | | taxable bond you take the muni bond yield and |
| spending that is going on right now. Social security | | | | divide it by the inverse of your marginal tax rate. |
| and Medicare also need increased "funding" from | | | | If your muni bond yield is 3% and you have a |
| tax revenues. Increasing income tax rates make | | | | 40% marginal tax rate then the tax-equivalent |
| tax-free municipal bonds more attractive relative | | | | yield is 3%/(1-.4) = 5%. That 5% is your |
| to other investments. Historically Muni's have | | | | tax-equivalent yield and that is the rate required |
| performed well during periods of rising tax rates. | | | | on a taxable bond to beat your 3% muni bond |
| Municipal bonds appear attractive relative to US | | | | yield. |
| treasury bonds and cash right now because they | | | | Should I buy individual bonds or a muni bond fund? |
| offer higher yields, lower taxes, and only slightly | | | | The benefits of investing directly in individual muni |
| higher risk (depending on the state) in my opinion. | | | | bonds is that you can avoid the fund expense |
| Muni Bond Investing Basics | | | | ratio and can pick and choose which states, |
| Credit risk. | | | | maturities, and credits you want. You can create |
| How safe is the state or municipality that is | | | | your own customized muni bond portfolio and can |
| standing behind the bonds? My advice right now | | | | ladder the maturities if you wish. The advantage |
| with all the municipal budget shortfalls is to stick | | | | of buying muni bonds in a fund is that you get |
| with safer credits and higher rated bonds. General | | | | professional management, increased diversification, |
| obligation (GO) bonds are usually safer than | | | | and a simpler and easier investment process for |
| revenue bonds because they have the full taxing | | | | you. For most investors who are not bond |
| authority of the state behind them. California is | | | | experts using a muni bond fund will likely be best. |
| currently having trouble and is issuing IOU's rather | | | | What are some low-cost muni bond fund options? |
| than paying their debts. | | | | Fidelity Minnesota Muni Bond Fund (FIMIX)- For |
| Interest rate risk. | | | | Minnesota Residents Only |
| Bond prices move in the opposite direction of | | | | This is a 4-star rated mutual fund at Morningstar. |
| interest rates. How much your bond price will go | | | | It is a double tax-free fund (federal and state) for |
| up or down is directly related to how long the | | | | Minnesota residents. The average maturity of the |
| term of the bond is. Long-term bonds (10-20 | | | | bonds in the fund is 7.1 years and the average |
| years) are much more volatile (risky) than shorter | | | | duration is 6.5 years. 70% of the bonds are rated |
| term bonds (1-5 years). I recommend sticking | | | | AA or better (the top 2 credit ratings). Over the |
| with the relatively safer short-term or | | | | past 1, 3 and 5 year time periods this fund has |
| intermediate term bonds. Generally the more | | | | ranked in the top 10% of its competitors in this |
| credit risk and the longer the maturities of the | | | | category according to Morningstar. |
| bonds you hold, the higher the yield on the bonds. | | | | I-Shares National Muni Bond Fund ETF (MUB) |
| Higher risk=higher yield. | | | | This is a national muni bond exchange traded fund |
| Is It All Tax-Free? | | | | (ETF), so it is only tax-free for federal income |
| If you buy a national muni bond fund your interest | | | | taxes. The expense ratio is a low .25% and the |
| income will be free of federal income taxes (but | | | | fund holds over 375 different bond positions. 83% |
| not state income taxes). If you buy a state muni | | | | of the fund is invested in bonds rated AA or |
| bond fund that owns bonds from your home | | | | higher. The average duration of the fund is 7.5 |
| state this interest income will likely be "double-tax | | | | years. |
| free" for both federal and state income tax. | | | | SPDR Barclays Short-Term Muni Bonds Fund ETF |
| Your Income Tax Rate? | | | | (SHM) |
| Muni bonds make more sense if you are in a high | | | | This is a national muni short term bond fund. It is |
| tax bracket. If you are in a low income tax | | | | shorter term and safer. The average duration of |
| bracket you may be better off (after taxes) | | | | the fund is only 2.9 years and 100% of the bonds |
| owning taxable bonds. Right now muni bond yields | | | | are rated AA or higher. The expense ratio is only |
| are very attractive relative to taxable bond yields | | | | .20%. |