VBILX intermediate bonds vs. VWAHX tax-exempt bonds?

Have a question about your personal investments? No matter how simple or complex, you can ask it here.
Post Reply
Topic Author
Mattzees
Posts: 16
Joined: Thu Jan 25, 2018 10:37 pm

VBILX intermediate bonds vs. VWAHX tax-exempt bonds?

Post by Mattzees » Tue May 14, 2019 12:47 pm

I'm comparing two bond funds, VBILX and VWAHX.
VBILX is an intermediate-term bond index fund.
VWAHX is a high-yield tax-exempt investment-grade bond index fund.

I'm investing outside of an IRA, so getting returns that are exempt from federal taxation sounds good to me. I thought that tax-exempt bonds had lower returns than regular bonds, but based on the performance of these two funds, it looks like VWAHX is doing much better than VBILX.

The reason I was looking at VBILX is because I figured interest rates were going up, and long-term bonds were not the place to be right now, but VWAHX is making me question that decision.

I'm not sure I understand how bond funds work, so I'm simply looking at these numbers and thinking "bigger is better". Is VWAHX doing as well as I think it is? What am I missing here?

bloom2708
Posts: 6117
Joined: Wed Apr 02, 2014 2:08 pm
Location: Fargo, ND

Re: VBILX intermediate bonds vs. VWAHX tax-exempt bonds?

Post by bloom2708 » Tue May 14, 2019 2:02 pm

VWAHX has lower quality bonds. It has a risk level of 3. VBILX has a risk level of 2 (Vanguard ratings).

You are getting a higher return by taking more risk. You can use the Vanguard "Compare" tool to see them side by side.

Comparing VBILX or VBTLX (Total US Bond) to VWIUX (Int-Term Tax-Exempt bond index) is a more apt comparison.

Tax exempt interest in taxable makes sense when you are in the 24% or higher tax bracket.

Most would say to take the risk on the stock side of your portfolio by having 3-5% more bonds and stay safer (no bonds are safe, safe).
"We are not here to agree with you; we are here to provoke thoughtfulness." Unknown Boglehead

Topic Author
Mattzees
Posts: 16
Joined: Thu Jan 25, 2018 10:37 pm

Re: VBILX intermediate bonds vs. VWAHX tax-exempt bonds?

Post by Mattzees » Tue May 14, 2019 5:46 pm

Thanks. I hadn't seen VWIUX.

Using the Vanguard compare tool, it seems like this fund also beats VBILX in every way. It appears these two funds have the same level of risk, so why wouldn't a tax-exempt fund make more sense in any tax bracket?

Also, when you say "tax bracket", do you include state, local and real estate taxes in that as well, or just federal? My federal is about 16%, but when I total up all my taxes it's like 28% of gross income.

User avatar
midareff
Posts: 6217
Joined: Mon Nov 29, 2010 10:43 am
Location: Biscayne Bay, South Florida

Re: VBILX intermediate bonds vs. VWAHX tax-exempt bonds?

Post by midareff » Tue May 14, 2019 6:13 pm

VBILX and VWIUX have relatively similar performance levels. In a taxable account I would (and do) use VWIUX. In a an IRA I would use VBILX which is relatively half corporate and half government bonds.

bloom2708
Posts: 6117
Joined: Wed Apr 02, 2014 2:08 pm
Location: Fargo, ND

Re: VBILX intermediate bonds vs. VWAHX tax-exempt bonds?

Post by bloom2708 » Wed May 15, 2019 12:49 pm

Mattzees wrote:
Tue May 14, 2019 5:46 pm
Thanks. I hadn't seen VWIUX.

Using the Vanguard compare tool, it seems like this fund also beats VBILX in every way. It appears these two funds have the same level of risk, so why wouldn't a tax-exempt fund make more sense in any tax bracket?

Also, when you say "tax bracket", do you include state, local and real estate taxes in that as well, or just federal? My federal is about 16%, but when I total up all my taxes it's like 28% of gross income.
Are you in CA, NY, NJ, OH, PA? If so, Vanguard has State specific tax-exempt bond funds.

VWIUX gets you Federal tax-exempt interest. A state specific would get you both if you live in that state and there are no restrictions.

Marginal tax bracket is the highest bracket you touch with your regular incomes (salary, dividends, etc). The interest from bonds and savings accounts is put on top and so you pay your highest marginal rate. 16% is probably your average/effective rate when you consider 0%, 10%, 12% for the first income. Then you get into 22 and 24%.

CA tax-exempt is probably a bit more risky, so some will do 50% Int-term Tax-Exempt + 50% CA Int-Term Tax-Exempt. or 50% Limited-Term and 50% Long-Term CA Tax-exempt.

Just a rough example. Say you get 2.7% pre-tax and 2.2% Tax-Exempt (Fed). If you are in 22% it comes out pretty darn close. 24% is a better difference. If you are up in the 32% then tax-exempt really starts to pull away. And if you are in 32%+ and in CA, then CA tax-exempt can make a lot of sense for your fixed income.

All of this assumes that you do not have space for your bonds in your 401k/work plan. I put all our fixed income in our 401ks. That leaves Roths and Taxable for 100% stocks. That doesn't always work for high earners. Then leave Roth as 100% stocks and use tax-exempt bonds (Fed and/or state) for taxable bond allocations.

Lots of little nuances, but know your top marginal bracket. Determine if you are in a state with state tax-exempt muni bond funds. Then mix Fed and State to your risk tolerance. Staying "intermediate" for the overall term.
"We are not here to agree with you; we are here to provoke thoughtfulness." Unknown Boglehead

Post Reply