Submitted by Chadwick L. Hargis
UBS Financial Services Inc.
If you are like most investors, chances are you can benefit from the tax advantages of municipal bonds. And if you're in the top tax brackets, municipal bonds can be a particularly attractive investment.
Municipal bonds are debt obligations issued by states, cities, towns, or public commissions to provide money for schools, hospitals and other public works. These securities provide income that is free of federal and, in some cases, state and local income taxes.
For the investor, this tax-free benefit can be quite considerable. For instance, a married couple in the 35 percent federal tax bracket would need to earn nearly 6-1/4 percent on a taxable investment to equal a 4 percent tax-exempt yield.
If state and local taxes are also accounted for, an even higher return on a taxable investment vehicle would be needed. (Bear in mind income generated by most municipal bonds is exempt from taxes, remember that any capital gains earned from the sale of these bonds are subject to taxation. Keep in mind also, that if they are sold prior to maturity, investments in municipal bonds are subject to gains or losses, depending on the level of interest rates.)
Investing in municipal bonds
Investors may choose from an array of municipal bonds with varying maturities. Shares in a municipal bond portfolio may also be purchased through mutual funds, which have the added benefit of professional selection and on-going professional management.
If you are going to invest in municipal bonds, should you invest in the bonds directly or by buying shares in a mutual fund? The answer to that question will depend on your individual circumstances.
Because no two investors are alike, there is no one correct way to manage a municipal bond portfolio. What is appropriate for one investor may be not be appropriate for another. In addition, as the markets move and your situation changes, your municipal bond portfolio might need to change. Consequently, building a municipal bond portfolio, whether it is of individual bonds, mutual funds or a combination of both, requires an understanding of the investor, the securities and the markets. This is where your financial advisor can help.
Individual municipal bonds vs. municipal bond mutual funds
Following are some of the advantages and disadvantages of investing in individual municipal bonds and investing in municipal bond mutual funds.
Investing in individual municipal bonds:
Can be tailored to each client's specific objectives
Permits development of complex and sophisticated strategies suitable for high net worth clients
Can be built to reflect market outlook
Can be adjusted to reflect changes in outlook or objectives
May require a larger initial portfolio size
May require greater level of involvement and diligence
May be more difficult to be as diversified as in a fund
Investing in a municipal bond mutual fund:
Total Return investment in a bond-like vehicle for smaller investments
May be appropriate for smaller initial investments
No fixed maturity date (Full return of principal contingent upon prevailing market conditions)
The amount of income earned will fluctuate
No control over security selection
For more complete information about a fund including the investment objectives, risk factors, charges and expenses, contact your financial advisor for a prospectus. The prospectus contains this and other important information that you should read and consider carefully before investing. The value of funds will fluctuate
There are a host of tax-free municipal bond mutual funds to suit a variety of investor needs. While the majority of municipal bond funds invest in investment grade securities, there are also high-yield, tax-free municipal bond funds that invest primarily in non-rated or non-investment grade securities. Although these funds entail a greater degree of risk, they also can potentially earn a higher yield.
With the continuing need to actually keep more of what is earned, consider consulting with your financial advisor and taking a close look at your portfolio to determine where municipal securities might fit in.
Chad Hargis is a financial advisor for UBS Financial Services. He can be reached at (321) 729-6770, or (800) 456-6770. Send an e-mail to him at firstname.lastname@example.org.