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Compare Taxable and Tax-Free Funds
Should I invest in a taxable or tax-free money-market fund?
By Kimberly Lankford, Contributing Editor, Kiplinger's Personal Finance
March 19, 2003
I need to keep some money accessible in a money-market fund and am wondering whether I should invest in a taxable money fund or a tax-free one. What do you think?
Choose the fund that offers the best return. But remember, because you're comparing taxable and tax-free money-market funds, you'll have to calculate the effect taxes will have on the funds' returns.
It's easy to calculate whether the tax advantages will outweigh the lower yield you'd get with a tax-free money-market fund (or a municipal bond fund versus a taxable bond fund). To figure out the taxable-equivalent yield of a tax-exempt fund, divide the fund's yield by one minus your tax bracket.
If you're in the 30% bracket, for example, a tax-free money-market fund yielding .99% has a taxable-equivalent yield of 1.41% (.99% divided by 1 minus 30%). So you'd have to earn more than 1.41% in a taxable money-market fund to beat a .99% tax-free fund. If you're in the 35% bracket, you'd have to earn more than 1.52%.
For help searching for a high-yielding money-market fund, see iMoneyNet.com. It's also a good idea to compare those yields with money-market account yields. See the link on our Yields & Rates page for the best rates.