How to Convert IRA Funds to Government Bonds

Government bonds have a record of offering relatively safe returns. As you approach retirement age, you might want to reduce your risks by converting some of the stock and mutual fund investments that are in your your individual retirement account to government bonds. It’s a snap to do, especially if you have a brokerage IRA. Enter sell orders for the assets you want to discard and purchase the bonds and bond funds that interest you.

Treasury Debt

The U.S. Treasury sells bills, notes and bonds. Bills mature in a year or less, while notes take from one to 10 years. Treasury bonds can have maturities of up to 30 years. The federal government guarantees this debt with its full faith and credit. Because of these guarantees, Treasury bonds pay less interest than corporate bonds. You can have your custodian buy new issues from the Treasury or you can buy seasoned issues trading on bond exchanges. Treasury debt is free of state and local taxes.

Agency Mortgage-Backed Securities

You can buy mortgage-backed securities from government agencies such as Fannie Mae and Freddie Mac. These are bonds that funnel payments from a pool of mortgages bought up by the federal agencies and converted to securities. The income is taxable and the bonds are a little riskier than Treasury bonds. You also have the risk that mortgage holders will pay down their loans faster than expected, thereby truncating your interest income. While your broker can purchase these securities for you, you can also buy mutual funds and exchange-traded funds that hold these bonds.

Municipal Bonds

State and local governments issue municipal bonds to pay for capital projects. Normally, these securities are free from all income taxes, which make them a poor choice for a traditional IRA, because you have to pay taxes on all withdrawals. They’re not too useful for Roth IRAs, because even though withdrawals are tax-free, a Roth adds no tax benefits to these bonds.

Zero Coupon Bonds

Zero coupon bonds benefit from the tax shield provided by IRAs. Zeros don’t pay any interest until maturity, but you must pay the tax on imputed interest each year, unless you hold these in your IRA. You buy zeros directly from bond dealers or on the bond exchange. You can also buy zero coupon municipal bonds.

Treasury Inflation-Protected Securities

Treasury inflation-protected securities, called TIPS, guarantee a real return after accounting for inflation. The Treasury Department adjusts the principal amount of these bonds every six months to reflect changes in the Consumer Price Index. The risk is a loss of principal if inflation declines. TIPS have maturities of five, 10 and 30 years.

Government Bond Funds

You can buy a portfolio of government bonds through a mutual fund or exchange-traded fund. These funds offer instant diversification. You’ll have to pay management fees, and mutual funds may have sales charges. Mutual funds allow you to reinvest interest automatically. Many brokerages offer access to a wide array of mutual funds. ETFs trade on the stock exchange and you can easily buy them in any brokerage IRA.