Tax Free Mutual Fund

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victorb
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Tax Free Mutual Fund

Post by victorb »

I am trying to compare the higher expense ratio vs savings in not paying MN State and Federal Income Tax with the SIT Minnesota Tax Free Income Fund. SIT fund has expense ratio in the 0.8% range. Fed Tax marginal rate is probably 25% and MN State Tax marginal rate is in the 7% range. Are there Municipal Bond Funds that would give the same or better returns, than the SIT fund, with lower expense ratio or higher returns. Let's try to keep the risk the same across the different funds.
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in_reality
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Re: Tax Free Mutual Fund

Post by in_reality »

victorb wrote:I am trying to compare the higher expense ratio vs savings in not paying MN State and Federal Income Tax with the SIT Minnesota Tax Free Income Fund. SIT fund has expense ratio in the 0.8% range. Fed Tax marginal rate is probably 25% and MN State Tax marginal rate is in the 7% range. Are there Municipal Bond Funds that would give the same or better returns, than the SIT fund, with lower expense ratio or higher returns. Let's try to keep the risk the same across the different funds.
I'd look here (1) and then look them up in Morningstar to look at past performance and current quality rating.

For example, Fidelities fund FIMIX has a 0.5% ER, slightly higher credit rating, didn't fall so much in 2008-9 but hasn't performed as well recently since the SIT has been rewarded recently for holding lower quality munis. It depends on what your focus is I guess.

Morningstar pointed out in 2009 that SIT took more credit risk than nearly all other Minnesota muni funds, the fund's average annual return of 3.8% over the past decade was the second-worst showing among the 16 Minnesota funds that have been around as long, and it has the second worse loss of Minny Munis in 2009.

Ranked #1 now for Mn munis by money.usnews.com though.

Just shows how strategies perform and don't perform in various conditions.

(1) http://money.usnews.com/funds/mutual-fu ... -minnesota
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grabiner
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Re: Tax Free Mutual Fund

Post by grabiner »

victorb wrote:I am trying to compare the higher expense ratio vs savings in not paying MN State and Federal Income Tax with the SIT Minnesota Tax Free Income Fund. SIT fund has expense ratio in the 0.8% range. Fed Tax marginal rate is probably 25% and MN State Tax marginal rate is in the 7% range. Are there Municipal Bond Funds that would give the same or better returns, than the SIT fund, with lower expense ratio or higher returns. Let's try to keep the risk the same across the different funds.
It's not worth it. The SIT fund holds bonds with a 3.72% yield, and loses 0.80% to expenses to pay out a 2.92% yield. A Vanguard Admiral fund with the same risk level would have a 3.60% yield and would lose another 0.25% to MN state taxes, for a net of 3.35%. (Vanguard doesn't actually offer a fund this risky.)

Similarly, Fidelity Minnesota Municipal Income holds bonds with a 2.03% yield, and loses 0.49% to expenses to pay out a 1.54% yield. A Vanguard Admiral fund with the same risk level would have a 1.91% yield, and would lose 0.13% to MN state taxes, for a net of 1.78%. Vanguard's actual closest equivalent is Intermediate-Term Tax-Exempt, which holds bonds with a 1.76% yield, and has a 1.64% yield, which becomes 1.53% after tax. Thus the Vanguard fund has the same after-tax yield as the Fidelity fund, despite holding less risky bonds; Fidelity has a longer duration and lower credit quality.
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Re: Tax Free Mutual Fund

Post by #Cruncher »

grabiner wrote:(Vanguard doesn't actually offer a fund this risky.) ... Vanguard's actual closest equivalent is Intermediate-Term Tax-Exempt ...
I would say the closest Vanguard equivalent to the Minnesota Tax-Free Income Fund, symbol SMTFX, is the Vanguard Long-Term Tax-Exempt Fund, Admiral symbol VWLUX. Both have about the same average maturity (15.8 years for the SIT fund and 16.0 for the Vanguard fund); but, as grabiner says and the table below shows, SMTFX carries more credit risk: [ 1 ]

Code: Select all

          SMTFX     VWLUX
          -----     -----
 AAA       5.5%     12.0%
 AA       24.4%     56.6%
 A        23.8%     24.4%
 BBB      21.1%      5.6%
 BB       25.0%      0.5%
 Other     0.2%      0.9%
          -----     -----
 Total   100.0%    100.0%
Because of its much lower expense ratio (0.12% vs 0.82%) VWLUX had about the same annual return over the 10 years ended 9/30/2014 (4.68% vs 4.64%) despite holding less risky bonds than SMTFX. The Vanguard fund currently has a 2.32% SEC yield which would be 2.16% after a 7% MN tax. [ 2 ]
  1. To come up with SMTFX's apportionment I used its own breakdown for the 33.7% Not Rated bonds and adjusted for the 6.9% uninvested.
  2. Or 2.20% if MN taxes are itemized. This is because, with a 25% federal marginal tax rate, a 7% state tax rate has only a 5.25% net effect on after-tax income (7% X 75%) if state taxes are deducted from federal taxable income.
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