Treasury issues: The most secure bonds are US government obligations issued by the Treasury Department. Known as "Treasuries," they come with maturities ranging from three months to 30 years. While some governments have defaulted on their obligations, it's highly unlikely that the US Treasury will. Accordingly, Treasuries are safe havens for US and foreign investors alike, and they pay the lowest interest rates, or "coupons," of any US bonds. The interest is taxed only at the federal level - it's free from state and local tax.
Long-term Treasuries yield the most, but lately, investors haven't been as well-rewarded for tying up their money for 30 years. Recently, the average 30-year Treasury bond carried an annual yield of 5.65 percent, while 10- and five-year Treasuries paid only slightly less - about 5.46 and 5.49 percent, respectively. These tiny interest-rate variations reflect a strong economy where investors are nervous that the Federal Reserve Board will push up short-term interest rates - sending yields higher and bond prices down across the board.
If you don't need current income and you're saving for a long-term goal, another option is zero-coupon Treasuries. Unlike a regular Treasury, a "zero" can be purchased at a deep discount to its value at maturity, or "face value." In return for the discount, you'll forfeit the twice-yearly interest payments of a regular Treasury. As compensation, the zero will yield slightly more than the Treasury.
Two important caveats about zeros dampen their appeal, however. First, you'll still owe federal tax on the interest earned every year, even though you won't actually collect it until maturity - a phenomenon known as "imputed" income. (Like regular Treasuries, zero-coupon Treasuries are exempt from state and local taxes.)
Second, because zeros don't offer the comforting stability of regular interest income, they're more volatile than interest-paying bonds. That means the zero's principal value will fluctuate more wildly as interest rates change. So to avoid the risk of taking a big loss, don't buy a zero unless you're sure you'll hold it until maturity. Municipal bonds. While Treasuries have much to recommend them, municipal bonds - those from state and local governments - can look even more attractive to high-income investors. Nearly as safe as Treasuries, many of them have the added advantage of being free not only from state and city taxes but from federal tax, as well. (But note that you have to live in the issuing state to get the full tax break.)
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