What is a money market fund and how do they work? | Vanguard (2024)

FAQs

What is a money market fund and how do they work? | Vanguard? ›

Money market funds are a type of mutual fund that invests in low-risk, short-term debt securities, such as Treasury bills, municipal debt, or corporate bonds. They're designed to offer a safe, stable investment option for money you may need to access in the short term, like an emergency fund or a short-term goal.

A money market fund is a type of mutual fund that invests in low-risk, short-term debt instruments such as U.S. Treasuries, commercial paper, and certificates of deposit (CDs). These funds offer investors high liquidity with a very low level of risk.

Money market funds are usually considered to be safe investments, but it's important to remember that these investments are intended for the short term. With maturities of 13 months or less, the funds stay liquid and allow you better access to your money than longer-term investments.

Because they invest in fixed income securities, money market funds and ultra-short duration funds are subject to three main risks: interest rate risk, liquidity risk and credit risk.

The interest you earn in a money market account is taxable as regular income. Reporting money market interest on your federal tax return is simple: Grab your 1099-INT form(s) and your Form 1040 to get started.

While some money market funds boast yields well above 4%, you don't want to put too much money into them, especially for long-term investing. Money market yields usually don't outpace inflation.

Money market funds can protect your assets during a recession, but only as a temporary fix and not for long-term growth. In times of economic uncertainty, money market funds offer liquidity for cash reserves that can help you build your portfolio.

Many accounts have monthly fees

Another drawback to remember is that while they have high yields, money market accounts can also come with cumbersome fees. Many banks and credit unions will impose monthly fees just for the upkeep of your account.

U.S. government money market funds are typically regarded as the safest of the three, and within that category, those with a high concentration of Treasuries—with full government backing—would be exposed to a lower likelihood of default risk.

Usually you can make unlimited withdrawals and payments by using an ATM or by making the withdrawal in person, by mail, or by telephone. A money market account might require a minimum amount to be deposited.

How much money should you keep in a money market account? ›

Some money market accounts require minimum account balances for the higher rate of interest. Six to 12 months of living expenses are typically recommended for the amount of money that should be kept in cash in these types of accounts as emergency funds.

Both money market accounts and money market funds are relatively safe, low-risk investments, but MMAs are insured up to $250,000 per depositor by the FDIC and money market funds aren't.

First and foremost, money market accounts are typically safe because they're insured by the federal government. If you open a money market account at a federally insured bank, the Federal Deposit Insurance Corp. (FDIC) insures up to $250,000 of your cash per bank, per depositor.

The types of assets the IRS can seize include real estate and other tangible assets, as well as bank accounts belonging to the taxpayer. Checking accounts, savings accounts and money market accounts can all be subject to an IRS tax levy.

Interest generated by a money market account is considered taxable interest income. Any year that interest is more than $10 you'll receive a 1099 INT interest income statement at year-end. The income will need to be reported on your income tax return.

Money market mutual funds are among the lowest-volatility types of investments. Income generated by a money market fund is either taxable or tax-exempt, depending on the types of securities in which the fund invests.

Some money market accounts require minimum account balances for the higher rate of interest. Six to 12 months of living expenses are typically recommended for the amount of money that should be kept in cash in these types of accounts as emergency funds. Beyond that, not investing will mean missing potential earnings.

The 7-Day Yield represents the annualized fund yield based on the average income paid out over the previous seven days assuming interest income is not reinvested and it reflects the effect of all applicable waivers. Absent such waivers, the fund's yield would have been lower.

Although interest structures can vary by bank or credit union, money market accounts usually compound interest daily, so the amount of interest you earn grows every day. However, the interest is only credited to your account — reflected on your account balance — monthly.

Most MMFs offer returns on investments ranging from 7.0% to 10.6%. The current inflation rate is at 6.5%, meaning that the returns from the MMFs are inflation beating. They also provide higher returns than bank deposits.