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Ok to keep emergency fund as tax exempt bonds?

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  • Ok to keep emergency fund as tax exempt bonds?

    I find it painful to have my emergency fund (and short-term savings stuff, e.g. for home renovations) sitting as cash in an online account, earning just over 1% (of course paying taxes off that interest - I am in a high tax bracket and a high tax state) - do you guys think it is reasonable to move those $ to a tax exempt (NY) Vanguard bond fund?  What are the main disadvantages of doing that?  We are talking about 50k here.  (Also in case of a "real" emergency, I can always borrow 50k from my 457 plan.)  Thoughts?

  • #2
    I keep short term money at Vanguard split between a short term bond fund and MMF.  I actually used the short term bond fund money to buy a new car a few months ago.  I used that money because it had a small loss.  Just keep in mind that a bond fund can and will lose money from time to time.

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    • #3
      The main disadvantage is that you could lose money in your emergency fund, which sort of defeats the purpose of an emergency fund! That said, any loss would likely be short term and less than 5%, based on recent loss history (2008 and 2013). A spike in interest rate or deteriorating NY credit conditions, both currently unforeseen, could potentially have a greater negative impact.

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      • #4
        I see no problems with using muni bond funds for EF. You’ll get advice ranging from cash only to 130% need in equity funds.

        Personally I prefer muni bonds and Vanguard tax-exempt money market fund. Just easier than CDs IMO. For part of my muni bond component, I use VTEB (Vanguard muni bond index ETF), in Merrill Edge, mostly to maintain BoA 75% credit card rewards bonuses (which are substantial and also tax free). VTEB is mid to long term which is not ideal, but I don’t think VG offers any shorter term Munis in ETFs.

        My only hesitation for you is I wouldn’t keep more than 50% in any state specific fund.

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        • #5
          Yes, the EM can lose money and said purpose is break in case of--- like insurance, have to balance the odds of x happening for y coverage needed at z costs.

          We have a small $10K EM fund for need-NOW access;  HELOC 200K for larger backup - and our 'mortgage' account fund for that has a healthy TE portion for access.

          Given we're 10+ years away from retirement, this is fine for us.  Those near retirement and starting off have lower thresholds though and probably should adjust accordingly.

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          • #6
            thanks for asking the question.

            i may switch from ally to vteb.  or at a minimum direct future savings into vteb.

             

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            • #7
              Munis advantage is dependent on the whims of future tax laws which if changed can make them crater. I also wonder what will happen to munis given the crisis facing municipalities and pension obligations?  Plus you have interest rate and inflation risk on top of that.  Market is also reactive to doomsayers (look up Whitney some years back).  I think they carry some risks that have not been encountered before and are riskier than they seem.    There is a real comfort having some of your money removed from markets and FDIC insured for me.

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              • #8
                Some of it should be immediately available as cash. Those bonds/funds can take several days to liquidate. I know most expenses can be put on credit so you can have some time on hand, but some things require straight cash, right now. So maybe have $10,000 there and the rest in munis.

                I've p much got 3 tiers to mine: cash in savings, munis in taxable, and then a 50/50 fund which is more play-money than an emergency fund.

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                • #9
                  Raddoc makes a strong point re: legislative risk of munis losing their tax advantage and taking a large one time hit. I still think the risk is being compensated, but for this reason, I still keep 50% of EF in VG tax exempt MMF, which is likely to remain a better deal than Ally savings for high earners.

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                  • #10
                    Thanks everyone.  I think the bottom line for me is that I don't have any bonds at all and just starting to build up my taxable account, so want to have SOME munis anyway.  Maybe will put in 10k and will invest some after tax $ there monthly.  I think I'll keep 10-20k in online savings anyway, I agree that that's wise to have... Also have about the same in cash (as in CASH), as hey you never know... and some play money in Scottrade for an occasional penny-ish stock itch.

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                    • #11
                      Why is Vanguard MMF better than online banking?  The former shows a yield of 0.46% over a ten year period.  Online banking is almost always at AT LEAST 1%, so even at a high tax bracket in a high tax state, isn't it better?

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                      • #12
                        IIRC, you have a sizable pension.  Take this in mind too.  I count our pension as the bond equivalent bucket to counter stocks balance for equities; with diversification into real estate as the counter.

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                        • #13




                          Why is Vanguard MMF better than online banking?  The former shows a yield of 0.46% over a ten year period.  Online banking is almost always at AT LEAST 1%, so even at a high tax bracket in a high tax state, isn’t it better?
                          Click to expand...


                          The current SEC yield of the Vanguard MMF is 1.07%, with an equivalent yield, assuming the 39.6% tax bracket, of 1.78%, which bests the common online banking savings accounts that I track. The Ally 12 month CD is running a short term “special” rate of 2.0%,BTW.

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                          • #14
                            I see what you mean.  I guess I was thinking more of average returns over the past decade.

                            BTW, what about the Vanguard Prime Money Market fund as an alternative?  Seems to have a slightly higher yield.

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                            • #15




                              IIRC, you have a sizable pension.  Take this in mind too.  I count our pension as the bond equivalent bucket to counter stocks balance for equities; with diversification into real estate as the counter.
                              Click to expand...


                              Yes that is correct, and has been one of my reasons to have no bonds.  I am still not convinced either way.  But I still feel like I should maybe have SOME just because.  I am looking at the NY tax exempt munis and they show a return rate of 5.75% since inception, which tax free looks pretty good to me - so I was thinking of having some of that...

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