Municipal Bond Fund

Municipal bond fund, also called muni fund, is a mutual fund that invests in municipal bonds. These bonds are issued by a state, city, or local government to raise capital for its day-to-day activities and for specific projects that it might be undertaking (usually pertaining to development of local infrastructure such as roads, sewerage, hospitals etc). Unlike income from bonds issued by corporations or the federal government, income generated by municipal bonds is exempt from federal and sometimes state income taxes. Given the tax-savings they offer, muni funds are often bought by people who have large tax burdens.

In general, muni funds are considered safer than corporate bonds, since a municipality is far less likely to go bankrupt than a company. If there is a rate spike and Treasury bond prices take a tumble, muni funds hold their value better. However, yields on muni funds are often lower than corporate or Treasury bonds with comparable maturities.

Here are some ideas on muni funds investing:
1. Don't put muni funds in IRAs or 401(k) plans because these accounts are already tax-sheltered.
2. Choose the happy medium. In a jittery market, intermediate-term muni funds with durations between 4.5 and seven years have returned about 90% as much as long-term offerings, but with only about 70% of their volatility over the past five years. As with most bond funds, a muni fund’s value rises and falls depending on interest-rate changes. A long duration usually means greater potential for short-term gains and losses.
3. Favor funds with average credit qualities of AA. They have enough high-quality bonds to skirt most credit scares but are still flexible enough to snap up higher-yielding, lower-rated issues.
4. Choose a single-state fund if you live in a high-tax state. Otherwise, go national for the diversification benefits.
5. Invest in a muni fund with an expense ratio of less than 1%.
6. If you're concerned about the AMT, choose a muni fund that avoids bonds subject to the tax.