Fixed Income investing and alternative minimum tax question

You don't want to minimuze the tax burden. You want to maximize the after-tax return. To give an example of what I mean, a NYC muni bond paying 3% will be triple tax-free. So your tax burden will be zero, and your return will be 3%. Now pretend you were able to find a CD paying 6%. If your combined tax bracket was 40%, your tax burden would be much higher than on the NYC bond, but since the CD would still be yielding 4.8% after taking all taxes into account, you'd still be better off the with the CD even though you'd be paying a bunch of taxes.

What you need to do is work out your combined effective tax bracket for each of these kinds of investments and then figure out the after-tax returns of those investments -- this will let you compare apples to apples -- and then you can see which ones give you the best returns.

No. In the context of fixed income, AMT has the potential to come into play if lots of your tax-exempt interest came from so-called "private activity bonds", which are muni bonds that finance a private enterprise. Interest from such bonds is taxable under the AMT. But CDs, Treasuries, and Agency/GSE bonds aren't going to cause AMT liability.

My apologies, in my earlier reply I missed this point, which makes some of what I posted irrelevant.

If this is only about safety, then you want to look at:

- credit rating of the assets in the fund - higher is better

- duration of the fund (longer = more risky if interest rates rise)

- after tax yield of the fund

(apologies if you know all the verbiage below)

In general, the safest assets from a credit point of view are US federal government securities, then some state governments and municipalities (but not all) as well as revenue bonds tied to particular pieces of infrastructure.

Less safe are mortgage backed securities, corporate bonds and bonds of foreign countries, especially so called 'emerging market' bonds, and the securities known as 'high yield' or 'junk'.

Those seeking fixed income and safety should avoid most of the latter categories, and be mindful of more than say 40-50% exposure in their portfolio to mortgage-backed securities and/or corporate bonds. There are specific sets of economic conditions which can cause corporations to get into financial trouble at the same time*, and which can cause mortgage backed securities to do poorly as a group**.

There are some foreign governments (France, Switzerland, UK, Germany, Canada, Australia) which have excellent credit records, if not quite (except for the UK) the 230 year record of the US Treasury. However an investor in these bonds is taking on the risk that the US dollar will appreciate relative to those currencies, wiping out any gains from a higher rate of interest. There aren't many stable countries now, whose securities pay a lot more in interest than the US government.

High yield and emerging market bonds you are effectively playing with fire. They are subject to periodic 'crises' and waves of default which can leave investors with little or no return of their capital.

• conversely, if there is a big fall in interest rates, many (perhaps most) corporate bonds are 'callable' by the issuers, and the owner of the bond is left with their money back, and the problem of reinvesting at much lower rates of interest.

** mortgage backed securities have a particular role to play in the current US 'housing bubble' and unwinding that may be very painful for bond holders. Additionally, when interest rates fall, householders tend to refinance, inflicting the same problem as a 'bond call' on the holders of mortgage backed securities.

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Some people consider it "unsafe" to invest too conseravtively, i.e. especially for for inflation. Thats why they advise some equities which over long periods time perform much better than bonds.

I had a longer post, which the moderator didn't let through.

My basic thought was the OP should consider that at 3% inflation of typical senior's costs (eg nursing home, medical costs not covered by insurance, rent, home care), which is only 1% above published CPI, $400k becomes $165k over 30 years. I believe those sorts of costs rise *much* faster than CPI in the long run.

My suggestion was that, depending on total size of portfolio, the OP consider:

- an index dividend fund (such as the Vanguard offering) which is likely to produce stable income, growing with inflation, even if the NAV will be volatile

- a conservative balanced fund with an income tilt (again Vanguard offers one)

I also suggested looking at the Vanguard offering for New York municipal bond investors, and the Nuveen Closed End fund which invests in New York tax exempt securities. Both have the duration risk (ie the sensitivity to interest rates) as they are relatively long run funds.