What is the difference between municipal bonds and standard money market funds?

A:

The primary difference between municipal bonds - also known as "munis" - and money market funds is that municipal bonds are a bond issue, while money market funds are a type of mutual fund.

Municipal bonds are bonds that are issued by federal, state or local governments to finance capital expenditures. These bonds are usually tax-exempt at the federal, state and local levels. (To learn more, see Weighing The Tax Benefits Of Municipal Securities.)

Money market funds are mutual funds comprised of low-risk securities. The funds invest in government securities, certificates of deposit and commercial paper issued by corporations - all of which are extremely liquid and low-risk investments.

There are some money market funds that are primarily invested in municipal bonds, thus creating municipal money market funds. These funds bring together the tax benefits of municipal bonds with the stability, liquidity and diversification qualities of money market funds. All of these benefits tend to attract high income investors seeking a tax shelter.

The major risks associated with municipal money market funds are the possibility that short-term yields will drop and that their returns may not keep pace with inflation.

To learn more, see The Basics Of Municipal Bonds, Getting To Know The Money Market and Introduction To Money Market Mutual Funds.

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