Bonds
Types of Bonds
Now that you understand the basics of bonds, what are the advantages and disadvantages of the various types of bonds? Selecting suitable bonds depends on the size of your investment, your financial goals, risk tolerance, tax situation and level of expertise.
Treasuries
Treasuries are direct obligations of the U.S. government. The federal government uses the proceeds from treasuries to finance its budget. They are held worldwide and the no-default guarantee of the U.S. government helps to make them the benchmarks for valuing other categories of bonds. Each treasury is backed by the full faith, credit and taxing power of the U.S. Government and is generally considered the safest investment in the world.
Click on each of the terms on the left for a complete definition.
| T-bills |
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Short-term treasuries with maturities of one year or less. |
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| T-notes |
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Medium-term treasuries paying interest semi-annually. Notes have a fixed maturity date of greater than one year and can be as long as 10 years. The minimum face value denomination is $1,000. |
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| T-bonds |
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Long-term treasuries that also pay interest semi-annually. Maturities range from 10 to 30 years, and the minimum denomination is also $1,000. |
Government Agency Bonds
Government Agency Bonds are issued by government agencies and are generally not insured by the federal government. They include:
- Ginnie Maes
- Fannie Maes
- Freddie Macs
Although the Government National Mortgage Association, the Federal National Mortgage Association and the Federal Home Loan Mortgage Corporation (which insure GNMAs, FNMAs, and Freddie Macs, respectively) are all federal agencies, only the Ginnie Maes are backed by the full faith and credit of the United States.
Municipal Bonds or "munis"
Municipal Bonds or "munis" are issued by state and local government agencies to pay for civic and governmental programs. Because munis fund projects for the public good, the interest from these bonds is exempt from federal income taxes. Some municipal bonds may also be exempt from state and local income taxes.
Types of municipal bonds:
- Revenue bonds — backed by the ability of the specific project to generate revenue
- General obligation bonds — backed but not guaranteed by the full faith and credit of the issuer
- Special project bonds — used to fund projects such as stadiums, convention centers, etc.
The higher the income tax bracket, the more attractive munis become.
Should I buy a tax-exempt or taxable bond?
While income may be tax-exempt, there may be some other tax consequences of owning a municipal bond.
Click on each of the features on the left to see the possible negative tax implication of munis.
| Social Security |
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Municipal bond interest is included in calculations to determine the possible taxation of Social Security benefits. |
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| Taxable Gains |
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Capital gains on municipal bonds are still taxable. |
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| AMT |
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For some bonds, the alternative minimum tax may negate tax-free treatment. |
Corporate Bonds
Corporate Bonds are issued by corporations to fund their financial needs in a way that does not dilute company ownership (unlike stocks.) Corporate bonds usually pay higher rates of interest than government and municipal bonds, since more risk is generally involved. Bondholders are creditors of the company. This means that if the company goes bankrupt and the assets of the company are liquidated, bondholder claims must be paid before stockholder claims.
Types of corporate bonds:
- Secured bonds — backed by corporate real estate or equipment.
- Debentures — backed but not guaranteed by the credit of the issuing company.
- Convertible bonds — may be exchanged for stock if the company's common stock reaches a predetermined price.
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