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February 20, 2006
A Little Muni Madness
Well it's President's Day, and thanks to our forefathers taxes are an inevitability. (I'll avoid the cliche, but you know what I'm thinking.)
In any case, taxes are a big deal when it comes to investing. Along with expenses, they take a big bite out of your returns. But most of us don't consider the after-tax returns of a mutual fund or other investment. But it's just as important a factor as fees, management and strategy.
That's why municipal bonds look so appealing. These fixed income investments issues by states and other local governments are a great way to get tax-free income without incurring a whole bunch of risk.
And according to a study by the folks at Franklin Templeton, the after-tax returns on municipal bonds are second only to stocks over the past twenty years. Between 1985 and 2005, the S&P 500 put up annualized gains of 9.71% taking into account the tax impact; muni bonds 8.14%; treasuries 6.68%; and corporate bonds 6.49%. All this assumes an investor in the top tax bracket.
Of course, your muni choice--say between a national muni fund or a state-specific muni fund--depends on your situation. Investors in a high-tax state like New York or California may be better off in a state-specific fund. While those in Texas and Florida may find a national muni fund a better option.
Do the math. Morningstar has a really useful calculator to help you determine your best options.
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