Emergency Fund: Muni bonds or CDs

[snip]

I have mine in a 3-bond ladder of 90 day T-Bills, plus I buy a $1000 six-month T-Bill every month that I have money left over (that didn't happen this month because an emergency wiped out my checking account reserves, but I didn't have to touch the ladder.)

The 3-month T-Bills are earning about 5%, exempt from state taxes. Every month, one of them matures and I can take money out instead of rolling it over if I have to pay for an emergency. (the emergency can go on a credit card for a month while I wait for a bond to come around) It works great for me; YMMV. ;-)

Bob

Ok, here's my take. The CD ladder has the risk of whatever early withdrawal penalty you incur for early withdrawal.

Now, the Bond fund has a bit different risk, interest rate risk. The change in present value based on a change in general rates. The "duration" of FICNX is 5.9 years. This means (to put it simply) that the present value will fluctuate as if this fund were a single instrument with a single payment 5.9 years out. What does this mean, practically speaking? If interest rates rise .25%, the fund may fall as much as

1.47% in value. So, in theory, a 1% rise in rates can create a 5.9% decrease in present value, and you may find that over a year, the return is negative. (Sometime around late 80's early 90, I thought stocks were due to fall, and in my 401 switched to short term bond fund. Well, it wasn't short enough. Rates went up so much that my one year return was 0%, there was a lesson to be learned)

JOE JoeTaxpayer.com

Just out of curiosity where do you buy your T-bills from? treasurydirect.com? or do you participate in the auctions through a broker?

Hello Bob. I appreciate your reply to my inquiry.

I like your suggestion, but I believe I would still have to pay my federal taxes on the gains as regular income, so I would lose 28% of the interest, approximately $350 of the $1250 annual interest. Now I understand the tbills to be virtually risk free, but I consider the CDs to be very, very low in risk as well. I'm not sure that saving the 5% state income tax is preferable to having an extra 0.5 in interest.

On Nov 10, 2:41 pm, zxcvbob wrote: I have mine in a 3-bond ladder of 90 day T-Bills, plus I buy a $1000

treasurydirect.com.

When rates were rising, I just bought 4-week T-bills. When rates stabilized, I split it into 13-weekers and started buying 26's on the side whenever I have an extra $1000 in the checking account.

Best regards, Bob

There are money market funds that invest solely in municipal bonds. They maintain a $1.00 net asset value, although that's not guaranteed or insured. All the big fund house (Vanguard, Fidelity, etc.) offer munibond money market funds. Problem is, he's not going to find one that's state specific to Conn. So he'll still pay the state tax. Moreover, the original poster's federal marginal rate is 28 percent. This is fairly low compared to most people who invest in munibonds. If he parked his emergency fund in a national munibond money market fund yielding 3.4 percent, his taxable equivalent yield would be 4.72 percent. That's less than he's getting now.

Fidelity Connecticut MMF (7 day yield 3.18%)

Dreyfus Connecticut MMF (7 day yield 2.99%)
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Muni MMFs and taxable MMFs go through cycles where for some time one is better than the other for most tax brackets, and then they reverse. Until

6-12 months ago, munis were the clear winner. Now taxable MMFs are. IMHO, rotating MMFs takes a fair amount of effort for little gain, but its a game that can be played.

As you can see from the yields for Conn. MMFs, these aren't the best funds around; one would do better with a national muni MMF (Vanguard's is currently yielding 3.52%) and paying the state tax. When comparing other family state-specific funds with Vanguard's national funds, this is often the case. (But be advised that up to 20% of the Vanguard funds' income can be, and often is, subject to AMT.)

Mark Freeland snipped-for-privacy@sbcglobal.net

For saving accounts (instant access without penalty), E-Loan offers

5.50%, there some others offering 5%+, e.g. HSBC

For CDs, some brokers' offers are also pretty attractive, e.g. etrade.

3M 5%, 6M/1Y 5.3% 1Y+: 5%