Final answer:
Municipal bond funds provide tax-free income and are a unique investment vehicle compared to other bond funds like high-yield corporate or mortgage-backed bonds, which are subject to tax. Investors look towards municipal bond funds to potentially reduce tax liabilities on the income generated from their investments.
Step-by-step explanation:
The bond mutual fund that provides tax-free income is B) Municipal bond funds. These funds invest in municipal bonds issued by local governments and are generally exempt from federal income tax, and in some cases, state and local taxes as well. Unlike municipal bond funds, high-yield corporate bond funds, convertible bond funds, mortgage-backed bond funds, and intermediate-term bond funds typically generate income that is subject to taxes.
It's important to understand that different types of bond funds cater to different investment strategies and tax situations. For example, government savings bonds and money market mutual funds provide safe options for investors, but may not offer the same tax benefits as municipal bond funds. On the other hand, capital market investments like corporate bonds typically pay higher yields to compensate for greater risk, as shown in the contrast between the yields of AAA-rated corporate bonds and safer 10-year Treasury bonds in Figure 17.5.