CA int municipal bond fund vs. Vanguard int muni fund

[ilan1h]

Several years ago when everyone was panicking about California's financial future, I pulled half of my funds out of VCADX (the Calif Int, Muni bond fund) and placed it into Vanguard's national intermed. muni bond fund (VWIUX). I am in the highest tax bracket possible (state and federal) and these accounts are large and represent a good portion of my savings. I had already maxed out on my 401K, 529 accounts etc. The idea was that I would remain in intermediate munis but would not take on additional exposure from California's problems. Over time I simply let the funds stay in these two funds without making any additional changes. It strikes me now that I am probably losing out on some tax savings by having half of my funds in VWIUX rather than the California fund. I would appreciate any advice on how relevant this really is.

[Kevin M]

As with all investment decisions, it's a tradeoff between expected return and risk. I personally hold both of the California muni funds as well as all of the intermediate term and long-term national municipal bond funds. I used to own only the California funds, but diversified into the National funds to mitigate the unsystemic risk of California only.

Some folks are comfortable with only the California funds, while others won't hold any California muni bonds. I am somewhere in the middle, but I also have about 70 percent of my fixed income in direct CDs, which are much safer than any of the Muni funds.

Kevin

[Pizzasteve510]

Sadly you missed a really nice rally in CA tax free munis (12k in 2010, now 15k), though the broader bond market did pretty well too.

A good lesson in allocating in alignment with risk profile and sticking with it.

[SimpleGift]

As mentioned, only you can decide the tradeoff between the risks of the single-state bond fund versus the tax advantages it offers to you personally. However, several expert recommendations I've seen allocate the bond portfolio like this:

• • 50% Taxable Bonds
  • 25% National Munis
  • 25% CA Munis

The idea is to keep your muni exposure to half of your bond allocation, and keep your individual state exposure to a quarter of your bond allocation. This protects against a blow-up of the muni market in general and limits the risk of disaster in an individual state.

This is the bond allocation I've personally used for years, in an all-taxable portfolio, and I've slept well at night.

[ilan1h]

Sadly you missed a really nice rally in CA tax free munis (12k in 2010, now 15k), though the broader bond market did pretty well too.

A good lesson in allocating in alignment with risk profile and sticking with it.

I didn't miss the nice rally because, as I mentioned in my post, I was still fully invested in intermediate munis; the only difference being that half of the investment was based in CA and the other half was national. I think the only relevant difference is the tax issue. The actual return I believe was very similar in both groups.

[fredjohnson]

I'd move most of it to the Calif bond fund and don't get scared out of them next time around.

[fredjohnson]

As mentioned, only you can decide the tradeoff between the risks of the single-state bond fund versus the tax advantages it offers to you personally. However, several expert recommendations I've seen allocate the bond portfolio like this:

• • 50% Taxable Bonds
  • 25% National Munis
  • 25% CA Munis

The idea is to keep your muni exposure to half of your bond allocation, and keep your individual state exposure to a quarter of your bond allocation. This protects against a blow-up of the muni market in general and limits the risk of disaster in an individual state.

This is the bond allocation I've personally used for years, in an all-taxable portfolio, and I've slept well at night.

If he's like me, he doesn't want taxable bond income. I'm in the highest tax bracket. Add my State tax rate to the federal rate and deduction phaseouts and the government takes almost 60% of my interest income. It's foolish to own anything other than municipal bond funds in this case.

[retiredjg]

This does not get discussed much, but I understand that some states have reciprocity with other states on tax-exempt bonds. Meaning you could live in State A but get tax benefits by holidng State B's muni bonds. If this is true (an I'm not positive it is), maybe finding "State B" in your situation would help some.

If you pursue this, I'd be interested in hearing about what you learn.

[tigerman3]

I hold both. CA Intermediate and national limited duration. The latter is to temper interest rate and state specific risk.

[BolderBoy]

This does not get discussed much, but I understand that some states have reciprocity with other states on tax-exempt bonds. Meaning you could live in State A but get tax benefits by holidng State B's muni bonds. If this is true (an I'm not positive it is), maybe finding "State B" in your situation would help some.

I'd like to know the answer to this as well. There was a SCOTUS case asking that this be mandated back around 2001 or so, but I think it failed.

[bertie wooster]

All of our muni bond allocation is in the CA bond intermediate term bond fund. As someone said earlier the tax savings are substantial. It also simplifies our taxable portfolio.

We hold 4 funds:
Total stock market
Total international
CA intermediate term muni
Prime money market (all dividends directed here, use it to fund backdoor Roth IRAs)

[retiredjg]

This does not get discussed much, but I understand that some states have reciprocity with other states on tax-exempt bonds. Meaning you could live in State A but get tax benefits by holidng State B's muni bonds. If this is true (an I'm not positive it is), maybe finding "State B" in your situation would help some.

I'd like to know the answer to this as well. There was a SCOTUS case asking that this be mandated back around 2001 or so, but I think it failed.

I have a vague memory of looking up what states had reciprocity with the state I lived in, probably about 5 or 6 years ago. But I didn't need any tax-exmept bonds, so I never did anything else.

[jimishooch]

This does not get discussed much, but I understand that some states have reciprocity with other states on tax-exempt bonds. Meaning you could live in State A but get tax benefits by holidng State B's muni bonds. If this is true (an I'm not positive it is), maybe finding "State B" in your situation would help some.

I'd like to know the answer to this as well. There was a SCOTUS case asking that this be mandated back around 2001 or so, but I think it failed.

I have a vague memory of looking up what states had reciprocity with the state I lived in, probably about 5 or 6 years ago. But I didn't need any tax-exmept bonds, so I never did anything else.

we live in texas,

my wife does business in CA. would sure like to find a reciprocated muni. any ideas where to look?

thx
jim

[retiredjg]

we live in texas,

my wife does business in CA. would sure like to find a reciprocated muni. any ideas where to look?

Google is where I look for everything.

So your wife pays taxes in CA?

[jimishooch]

we live in texas,

my wife does business in CA. would sure like to find a reciprocated muni. any ideas where to look?

Google is where I look for everything.

So your wife pays taxes in CA?

yep, comes thru on a K-1 and we file CA return.

thought maybe somebody would know off the top of his/her head...
thx
jim

[baw703916]

As mentioned, only you can decide the tradeoff between the risks of the single-state bond fund versus the tax advantages it offers to you personally. However, several expert recommendations I've seen allocate the bond portfolio like this:

• • 50% Taxable Bonds
  • 25% National Munis
  • 25% CA Munis

The idea is to keep your muni exposure to half of your bond allocation, and keep your individual state exposure to a quarter of your bond allocation. This protects against a blow-up of the muni market in general and limits the risk of disaster in an individual state.

This is the bond allocation I've personally used for years, in an all-taxable portfolio, and I've slept well at night.

If he's like me, he doesn't want taxable bond income. I'm in the highest tax bracket. Add my State tax rate to the federal rate and deduction phaseouts and the government takes almost 60% of my interest income. It's foolish to own anything other than municipal bond funds in this case.

If you had something like 33% TIPS/33% national munis/33% CA munis, then 2/3 of interest would be exempt from Federal taxes (munis) and 2/3 exempt from CA taxes (CA munis and TIPS--or for that matter any Treasuries), and there would be some inflation hedging and only 1/3 exposures to any idiosyncratic CA risk. Or you could do 50% CA munis, 25% of the other two. It's not as tax-efficient as purely CA munis; each investor has to weigh the risks between risk of in-state bonds and tax efficiency.

[kenner]

Starting point:

Per Utah Code Section 59-10-114(1)(e), interest from certain bonds, notes, and other evidences of indebtedness issued by non-federal government entities outside Utah (commonly known as municipal bonds) are subject to Utah income tax if acquired on or after January 1, 2003. However, interest earned on non-Utah municipal bonds is not subject to Utah income tax if the issuing state (or political subdivision) does not impose an income tax on bonds issued by Utah, or the issuing state does not impose an income tax. The Reciprocity List included in this Utah Code section includes AK, DC, FL, IN, NV, ND, SD, TX, WA and WY.

I'd just Google something like "state reciprocity re tax exempt municipal bonds".

[jimishooch]

Starting point:

Per Utah Code Section 59-10-114(1)(e), interest from certain bonds, notes, and other evidences of indebtedness issued by non-federal government entities outside Utah (commonly known as municipal bonds) are subject to Utah income tax if acquired on or after January 1, 2003. However, interest earned on non-Utah municipal bonds is not subject to Utah income tax if the issuing state (or political subdivision) does not impose an income tax on bonds issued by Utah, or the issuing state does not impose an income tax. The Reciprocity List included in this Utah Code section includes AK, DC, FL, IN, NV, ND, SD, TX, WA and WY.

I'd just Google something like "state reciprocity re tax exempt municipal bonds".

thanks kenner,

I came across that too. just need to find the CA version.
jim

[retiredjg]

The Reciprocity List included in this Utah Code section includes AK, DC, FL, IN, NV, ND, SD, TX, WA and WY.

Without looking up every state....most (all?) on this list are states that don't have income tax at all. I wonder how many have muni bonds?

[jimishooch]

The Reciprocity List included in this Utah Code section includes AK, DC, FL, IN, NV, ND, SD, TX, WA and WY.

Without looking up every state....most (all?) on this list are states that don't have income tax at all. I wonder how many have muni bonds?

Texas does...http://texas.municipalbonds.com/bonds/recent/

[kenner]

All I could find (not sure if it's dispositive):

http://www.fmsbonds.com/Bond_Basics/state_taxes.asp

[retiredjg]

All I could find (not sure if it's dispositive):

http://www.fmsbonds.com/Bond_Basics/state_taxes.asp

This is what I found as well. Looks to me like California does not play this game. In fact, it appears that not many play this game. Never mind.

[kenner]

All I could find (not sure if it's dispositive):

http://www.fmsbonds.com/Bond_Basics/state_taxes.asp

This is what I found as well. Looks to me like California does not play this game. In fact, it appears that not many play this game. Never mind.

I concur.

[jimishooch]

All I could find (not sure if it's dispositive):

http://www.fmsbonds.com/Bond_Basics/state_taxes.asp

I don't think the animal I'm looking for exists, not in CA anyway; SOL.
thx
jim

[ilan1h]

So I've decided that I would like to sell the VWIUX (national fund) and buy VCADX (the Calif specific fund). However, I have a very large unrealized gain in VWIUX. At this point is it worth being hit with the taxes in order to shift the money to the other fund? Any way to do this tax free?

[kenner]

So I've decided that I would like to sell the VWIUX (national fund) and buy VCADX (the Calif specific fund). However, I have a very large unrealized gain in VWIUX. At this point is it worth being hit with the taxes in order to shift the money to the other fund? Any way to do this tax free?

I'm far from being a tax expert, and I hope others will weigh in, but I don't know any way to sell (exchange) VWIUX for VCADX without capital gains tax consequences. Only you can determine all the financial factors and determine the long-term benefit of exchanging these mutual funds.

[Steven28]

i had a similar situation with New Jersey, which also has financial difficulties and several years ago I sold my NJ bond fund and bought a selection various Vanguard muni bond funds. Yes I pay the taxes on the dividends at a high tax bracket (more than 6%) but I sleep better at night. Plus I have more flexibility around the duration - NJ Long term has 6.3 yr duration and 14 year maturity, more than the Vang intermediate term muni fund.

allan

[bargainhuntingking]

As others have similarly allocated, when I liquidated my house earlier this year, I split the proceeds into half of the Vanguard Intermediate term CA Muni fund and half into the Vanguard Federal Intermediate term Muni Fund, just to diversify the potential single state risk.

[ilan1h]

I was hoping that someone could help me on the tax math here. Currently there is over a 6 figure capital gain on the national muni fund since I shifted significant funds into it in 2008. I've concluded (I may be wrong) that the worries about California were overblown. As a nation-state, California would have one of the most robust economies in the world. During the 2011 "debt crisis" people were wringing their hands over 5 billion dollars that had to be borrowed to stave off default. I'm not saying that 5 billion isn't a large sum, but it's a laughable amount for a state like California where billionaires can be spotted at every street corner and where trillions of dollars of value exist in our entertainment and tech industries alone. Anyway, I digress: the point is that I don't think that the California risk justifies giving up the tax benefits but I'm not sure that the capital gains hit at this point would justify an exchange between the funds.

[retiredjg]

I'm not sure that anyone can actually help you make this decision. It boils down to paying capital gains tax (either 15% or 20% federal plus an unknown amount in state tax) on something "over 6 figures".

So if the gain is $100,000 and you are not in the top bracket, it would cost you $15k in federal tax to switch back to the other fund. $20k if you are in the top federal tax bracket. Is it worth that?

What about the middle ground - sell part and keep the rest but reinvest the dividends from the fund you don't want into the fund you do want.

However, I'm wondering if you have forgotten that much of the increased value of that holding is not going to be taxed. Over 6 figures in capital gains in just 6 years sounds like a lot for a bond fund unless you have a boatload of money invested there. Have you accidentally included the dividends in that 6 figure number?

[Artsdoctor]

Ilan,

I'm a CA resident and understand your question completely.

First, consider your goal. The national fund is a fine fund and very diversified. If you feel you'd like to begin transferring some of it into the CA fund, then do it in stages. First, re-direct the dividends to the CA fund at least. Second, and this doesn't sound like it applies to you, if you're going to tax-loss harvest mutual fund shares that are less than six months old, there are tax ramifications. Third, you can sell your blocks of the national fund shares with specific lots in order to minimize taxes at least. Remember that CA taxes your gains as ordinary income so if you're going to sell appreciated fund shares, you will pay a great deal for that (not the mention the federal hit). I suspect that your tax bill will be much higher if you sell a large chunk now than if you just pay state tax on the national fund's dividends (which really are quite low right now anyway).

Hope this helps.

And when people talk about the financial troubles that CA has, it's usually not in the context of the CA fund defaulting. If financial troubles worsened, you might find a lot of bonds being downgraded, for example to BBB status. This would make their prices decrease and the NAV of the fund would decrease as well. However, the dividends would ultimately increase. The CA fund is extremely diversified as well.

[ogd]

Ilan,

I might go against the grain here, but I'd recommend that you stay where you are or even move in the direction of more diversification, not less.

Like you, I'm in a high tax bracket with a large chunk of bonds in taxable. My own determination on how to do this is to hold no more than 50% of total fixed income in municipals, and no more than a third in California bonds, even at the cost of tax efficiency. The rationale is, there are systemic risk with munis in addition to the risk of a single state.

This allocation is independent of current conditions, which I have no business pricing. The switching around based on what you hear about state finances is troublesome; you say you didn't, but I believe you did in fact lose some 4-5% by this move, due to the recent outperformance of California bonds. You might be once again switching at the wrong time.

You haven't told us how many bonds you have in the tax-advantaged accounts, which would be a factor if you went by this type of allocation. IMHO it makes sense that one should worry differently about the risk of 100% California if it was 80% of fixed income instead of 10%.

Also, the nice rally you mention has been great, but it's also taken the wind out of future returns of munis in general. This kind of performance can't be repeated anytime soon. So the tax efficiency tradeoffs I mentioned have only gotten slimmer. For example, bank CDs are not very far from being competitive with CA bonds after risk considerations and they're a good candidate for the portion of non-municipal bonds that have to live in taxable, should you go that route.

[SimpleGift]

Agree with ogd here. As mentioned upthread, 50% of the bond portfolio maximum in municipals is what I've seen recommended (see "Taxable Ted" in William Bernstein's Four Pillars of Investing). And no more than one-quarter or one-third of the bond portfolio in single-state munis. This has been my "sleep well" bond allocation for years.

Sure, you're giving up some tax benefits — but the role of bonds in the portfolio is to be one's safe assets. Take the risks and seek the higher returns on the equity side of your portfolio. The fact that you pulled out of CA muni bonds during the financial crisis indicates that this was not a "sleep well" allocation for you.