Tax-Free and Treasury Bonds – Good Investments?

 

Tax-free municipal bonds and Treasury bonds are generally for investors with money who want income. Municipal bonds offer interest that is exempt from federal income taxes, while U.S. Treasury bonds are the safest long term debt issues in the world. Whether either are good investments for you all depends on the circumstances.

Sometimes the world of investing gets turned upside down. In 2009 this was the case, in my opinion. If you wanted to earn any kind of interest on your money, you had to turn to bonds. Interest rates were in the gutter and the government intended to keep them there so the economy could recover. Meanwhile some investors were unknowingly putting money at risk by investing in Treasury bonds and municipal bonds. After all, they are good investments aren’t they?

Normally, safe short-term investments pay less interest than their longer-term counterparts. By 2009 this had gone to an extreme. Money invested for the short term was paying virtually nothing. Interest rates were at historical lows, with 30-year Treasury bonds yielding less than 4.5%. That’s a unique set of circumstances the investor should take into consideration.

Would a municipal bond (municipal or muni) and/or a Treasury bond (Treasury) be good investments for YOU? That’s another set of circumstances you need to consider. Older folks with a lump some of cash in search of higher income might consider them. Young people in search of growth have better alternatives. For example, stocks and higher yielding but riskier corporate bond issues.

Then, there’s the question of how comfortable you would be selecting, purchasing and holding an individual municipal bond issue, for example. You can buy a muni or a Treasury bond through a broker; and you can buy a Treasury bond directly from the U.S. Treasury. Most investors I’ve known would rather own a small part of a large managed portfolio of these securities and let professional managers deal with the details.

The simplest way to do that is with a bond fund. Some specialize in Treasuries and others in municipals. If you go this route like most average investors do, pick a bond fund with low expenses. Interest rates are low enough without diluting your income with high expenses.

The advantage of municipals is that the interest income is exempt from federal income tax, tax-free. Normally munis pay lower interest than taxable issues for this reason. Check and compare rates, because at times municipals can be a bargain vs. taxable issues of similar quality.

The advantage of the Treasury bond is that it is the safest one out there. Thus, it pays less income than riskier debt securities. But as a final consideration: all bonds have interest rate risk. If rates in the economy go up, bond prices fall… especially those with long term maturities.

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