Tax free bonds have always been sought after by higher income investors. Obviously, from their point of view, the less tax they pay, the better. However, they can also be advantageous for those in the middle income brackets. While people are earning, there are benefits in using tax free bonds to preserve capital and maximize after-tax income.
You can select a maturity term to coincide with your remaining working years, and then switch to stocks or corporate bonds on retirement. Tax free bonds are municipal bonds issued by federal, state and local governments to raise money, and are therefore considered safe. However, they are not all the same, so the question is how to pick tax free bonds.
In looking for quality municipal bonds, one point to consider is yield prospects. Bond prices and interest rates move in opposite directions, so how much your bond price will increase or decrease is directly related to the term of the bond. Longer-term bonds of 10-20 years are much more volatile, that is, more risky, than 1-5 year bonds, so it would be safer to choose short to medium-term bonds. However, the higher the risk, the higher the yield. Another consideration is the credit risk. GO (general obligation) bonds are usually safer than revenue bonds because they have the state’s full taxing authority behind them. A third thing you need to be clear about is exactly what “tax free” means. With a national municipal bond, the interest will be free of federal but not state tax. A state municipal bond that owns bonds from your home state will probably qualify for double tax free status.
This can all be very confusing. If you want to get the top bond recommendations, your best plan is to open a brokerage account, either with a traditional or a discount broker. Traditional brokers will do most of the work for you, including managing your funds and providing investment advice, so their fees are very high. Discount brokers are aimed at the self-directed investor and allow you to make your own decisions, so their charges are much lower. The fact that they allow you to make your own investment decisions means that they have no vested interest in trying to sell you a particular product.
If you make sure you find the best discount bond broker (like a sponsor of MyBondGuy) you will have access to extensive information which the broker will make available to you. This will enable you to carry out the necessary research to select the right bond. For instance, in the current climate of uncertainty, in which state governments like that of California are having difficulty paying their debts, the broker will help you find independent rating services to rate the quality of municipals, and to find the best AAA bonds.
As tax rates rise, as they are certain to do in the current climate, municipal bonds become increasingly attractive, so anyone who can benefit from them should certainly do so. The problem is knowing how to pick tax free bonds. The best plan is to find a good discount bond broker, who will ensure you have sufficient information available to you to get a good deal on tax free bonds.
