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    Money Market Funds

    If you have an emergency fund, where do you keep it? If you have a savings account for your first home purchase, where do you keep it?

    Most people utilize a high yield savings account, like Ally, BMO, CIBC, PNC, Capital One and others that pay between 3-4%.

    But there might be another option – Money Market Funds (MMFs).

    A Money Market Fund is simply a mutual fund that invests in treasury bills, short-term government obligations, and other repurchase agreements. MMFs aim to keep their share price at $1 and pay a monthly dividend that is reported as interest.

    Different brokerage accounts offer different MMF funds. 

    For example, Vanguard, Fidelity, Schwab, and others have various MMFs.

    There are generally three categories of MMFs. The main distinctions between these categories are their holdings (what the fund invests in), interest yield, and taxability. Here are the categories:

    1. Government/Federal

    The government/federal funds typically hold more repurchase agreements and government obligations. The interest is not exempt from state or federal taxes. 

    For example, each brokerage has its own government/federal fund:

    Vanguard – VMFXX – 5.28% yield, with 39.8% in repurchase agreements, 36.8% U.S. govt obligations and 23.4% in U.S. Treasury bills

    Fidelity – SPAXX – 4.97% yield, with 49.17% in repurchase agreements, 22.25% in govt obligations and 26.81% U.S. Treasury bills.

    Schwab – SNVXX – 5.02% yield

    1. Treasury

    The treasury MMF typically invests in the U.S. Treasury Bills and are generally exempt from state/local taxes. 

    Vanguard – VUSXX – 5.28% yield, with 95.3% in U.S. Treasury bills and 4.7% in Govt obligations

    Fidelity – FDLXX – 4.95% yield with 94.49% in U.S. Treasury bills and 6.59% in Treasury coupons.

    Schwab – SNSXX – 5.01% yield with 100% IN U.S. Treasury debt

    1. Municipal

    Municipal MMFs invest in short term municipal securities that are exempt from federal taxes.

    Vanguard – VMSXX – 3.66% yield

    Fidelity – FTEXX – 3.63% yield

    Schwab – SWTXX – 3.41% yield 

    When deciding which one to get, it’s important to analyze the after-tax yield since they all have different tax treatments. The best fund is the one that gives you the most after-tax money. 

    For example, say you have a 5% state income tax and a 32% marginal tax bracket. 

    Here is how the calculations would work:

    $1,000 invested in VMSXX (Municipal) = $36.60 per year. $36.60 * (1 – 5%) = $34.77 after tax

    $1,000 invested in VUSXX (Treasury) = $52.80 per year. $52.80 * (1 – 32%) = $35.90 after tax

    $1,000 invested in VMFXX (Federal) = $52.80 per year. $52.80 * (1 – 37%) = $33.26 after tax

    So overall, for this specific investor, Treasury MMF would yield the highest after tax amount.

    Risks

    I want to make sure you are aware of the risks associated with Money Market Funds. First of all, they are not FDIC insured. Your brokerage account is insured with SIPC, which protects customers if your brokerage firm fails.

    Secondly, it’s possible for the share price of the mutual fund to fall below $1. For example, during March 2020, some MMFs experienced net redemptions of about 30% of their total assets over a two-week period:

    To stabilize the financial system during 2020, the government created liquidity programs to support these funds, ensuring the share price wouldn’t drop below $1.

    In 2023, the SEC adopted MMF reforms that increased minimum liquidity requirements for MMFs, providing a substantial liquidity buffer in the event of redemptions.

    How to buy?

    Many brokerages, like Vanguard or Fidelity, use a Federal Money Market Fund as the settlement account. This means that all you have to do is simply deposit money into the account to start earning interest.

    For example, Vanguard uses the Vanguard Federal Money Market Fund (FMMF) as its settlement fund:

    If you want to buy a Treasury or Municipal MMF, you can simply click “buy,” type the ETF ticker, and purchase it with your settlement account money. Some of them might have a minimum investment ($3,000) though.

    How to withdraw?

    If you keep your money in the settlement fund, you can just click “withdraw” and the brokerage will sell the MMF on the back end without you having to do anything (specifically for Vanguard). 

    If you buy a different fund, like Treasury or Municipal, you might need to sell it first. Once that money is in the settlement fund, you can withdraw it to your bank.

    Taxes 

    You will receive a 1099 from your brokerage at the end of the year showing exactly how much interest you’ve received.

    In summary, MMFs are not a good investment for the long term. They might be a good place to store your cash for any short-term needs. Keep in mind that the yield depends on the current interest rate environment.

    I hope you learned something new. I put so much effort into writing these newsletters every single week, so I would really appreciate it if you could share the newsletter with your friends. 

    Questions? Just hit reply!

    See you next Saturday!

    MC, CPA

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