According to the U.S. Securities and Exchange Commission (SEC), bond funds are a type of investment fund, such as a mutual fund, that primarily invests in bonds. A bond is basically an "IOU" to an agency, such as a federal agency, government or municipality. In return for the investment, the seller of the bond promises to pay the investor a specific value at the bond's maturity date.

Types of Bonds

There are several different types of bonds, including corporate bonds, municipal bonds and government bonds. Corporate bonds are sold by public and private companies that are raising money for a specific project, such as building a new location or purchasing new equipment for the business. Government bonds are sold by the U.S. Department of Treasury and are backed by the federal government. Municipal bonds are sold by cities, counties and sate governments to pay for projects such as schools, hospitals and transportation initiatives.

Where to Purchase Bond Funds

You can purchase most bonds through a discount or full-service brokerage. A full-service brokerage provides investment advice to clients; however, fees for this service are usually higher. This is a good option for a new investor. Discount brokers sell bonds at a lower commission price, but don't usually offer investment advice. Bonds can also be purchased directly through the government.

Investment Risk

A common misconception about bonds is that they carry no investment risk. However, bonds are subject to risk depending on whom the bond is purchased from and the terms of the agreement. Before purchasing a bond, make sure to evaluate the investment risk. The risks of bonds purchased from the government are minimal, according to the SEC. However, bonds issued from private companies may carry more risk. The SEC recommends evaluating the Database of Corporate Bond Funds and Income Funds to evaluate market risk.

Tax Advantages

When purchasing bonds from municipal and government entities, you may be exempt from paying local and state taxes on the investment. However, each bond is different, so check with your accountant or financial planner.

Source:

U.S. Securities and Exchange Commission: Bond Funds and Income Funds

Investopedia: Bond Basics: How Do I Buy Bonds

Securities Industry and Financial Markets Association: Investing in Bonds

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buying government bonds