Retirement is a time to be more conservative with your investments. Despite today’s low interest rate environment, seniors can still benefit from devoting a portion of their portfolio to high-quality municipal bonds. Also known as “munis,” these bonds offer tax-free income, and they’re relatively safe because local or state tax revenues back the bonds’ payments.

Aim for Diversification

“I’m a big believer that an investment portfolio should be diversified,” says Justin Land, director of tax exempt management with Wasmer, Schroeder & Company, a firm based in Naples, Florida.

Land notes that municipal bonds have zero correlation with the U.S. stock market. That means that the performance of municipal bonds doesn’t move in tandem with stocks, providing diversification to an overall portfolio.

What’s more, municipal-bond income is more certain than corporate stock dividends, which can be cut when times get tough. “For retirees, having the certainty of consistent cash flow provides a lot of security,” Land says.

How to Pick the Best “Munis”

States, cities, counties and other local governments sell debt and use the money to fund infrastructure projects, such as roads, sewers and schools. Because of this, the income from most municipal bonds is exempt from federal taxation.

The federal tax exemption gives municipalities an advantage over corporations so they have easier access to raising money for the public good. Many municipal bonds are either backed by a municipality’s general tax revenues or from the revenues of a specific project, such as tolls for a road.

Another benefit is that income from municipal bonds is often exempt from state income taxes for residents who buy them. That’s important in states such as California, New York and New Jersey that impose relatively high state income taxes on residents, but less valuable to those who live in states like Florida where there is no state income tax.

The challenge for individual investors is that the municipal bond market is enormous. There is currently in excess of $3.72 trillion in outstanding municipal debt in the U.S., according to the Securities Industry and Financial Markets Association.

Still, municipal bonds have a very good track record as safe investments, especially if you stick to issues rated highly by agencies such as Moody’s and Standard & Poor’s. “Despite negative headlines about pension issues, throughout the financial crisis there were very few defaults,” Land notes.

The best municipal bonds will receive AAA or AA ratings. “There are plenty of great AA credits,” Land says.

Individual Bonds or Mutual Funds

Consumers can buy municipal bonds individually with the help of a broker or money manager or invest in mutual funds and exchange-traded funds. The rule of thumb for deciding how to purchase these bonds is whether a consumer has more or less than $500,000 to invest. Individual bonds can be expensive, and you’ll want an adequate selection of bonds to truly diversify your portfolio.

If you have less than $500,000 to devote, consider mutual funds that invest in municipal bonds or exchange-traded funds that have low costs. Some even have state-specific funds for residents who live in states that levy high income taxes. Companies that offer low-cost mutual funds that invest in municipal tax-free bonds include Fidelity, Vanguard, T. Rowe Price and Charles Schwab.

If you have more than $500,000 to invest, consider hiring a wealth manager to assist you in setting up and managing your portfolio. You can also buy individual municipal bonds yourself through discount brokerages such as Charles Schwab, but be aware that bonds don’t trade on an exchange like stocks. Instead, they’re traded between brokers and you risk overpaying.

When shopping for individual bonds, it’s a good idea to see how much investors have paid in the past by visiting the Municipal Securities Rulemaking Board’s Electronic Municipal Market Access, better known as EMMA.

On its website (, EMMA lets you browse municipal securities by issuer and find prices, disclosures and other information for specific bonds. Still, Land says individual investors are often at a disadvantage compared with professionals because the bond market isn’t as transparent as the stock market.

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Tax Benefits of Municipal Bonds

Because municipal-bond income is tax-free, the yields are generally lower than taxable bonds. However, once you add the tax advantage, you may come out ahead. A taxable bond with similar maturity and credit quality would have to match or exceed the tax-equivalent yield to be an appealing investment.

To find out whether you’re better off with a top-rated municipal bond compared with, say, a comparable U.S. Treasury bond, you have to know your federal tax bracket. You can find the 2017 brackets and rates on the Tax Foundation website.

To figure out your tax-equivalent yield, divide the municipal bond’s tax-exempt yield by 1 minus your tax rate. For example, if you’re in the 28 percent federal tax bracket and the municipal bond you’re considering yields 2 percent, your federal tax-exempt yield would be 2.78 percent.

0.02 ÷ (1 – 0.28) = 2.78%

If you’re in the 33% tax bracket, the tax-equivalent yield would be 2.99 percent.

0.02 ÷ (1 – 0.33) = 2.99%

There are calculators online that can help you figure out your tax-equivalent yield, and Vanguard offers an easy one here.

Consult the Experts

If you or a loved one are interested in new investment opportunities or switching up retirement strategies, be sure to do your homework and look to the professionals for answers on complicated tax and investing questions. Assembling a team of trusted financial experts can help ensure your money is working for you and in good hands.

Read: Building Your Retirement Planning Team