Interest income exempt from federal income tax is among the many distinct advantages that municipal bonds offer to investors. They also show very little correlation with returns from equity investments. Thus, they offer relatively high yields at lower levels of risk, and are considered second only to government securities in terms of safety of capital invested. By holding a well-diversified portfolio of such securities, mutual funds significantly lower the associated default risk.

Below we will share with you five top-rated municipal bond mutual funds. Each has earned a Zacks #1 Rank (Strong Buy), as we expect these mutual funds to outperform their peers in the future. To view the Zacks Rank and past performance of all municipal bond funds, investors can click here to see the complete list of funds.

Waddell & Reed Municipal High-Income A (UMUHX - MF report) seeks a high level of current income not subjected to federal income tax. The fund invests a lion’s share of its assets in a diversified portfolio of municipal bonds having maturity between 10-30 years. It mostly invests in revenue bonds payable from sources, including revenue from a project, a special tax, lease payments, and/or appropriate funds.

UMUHX returned 2.95% over the last one-year periods. The fund has an expense ratio of 0.87% and a net asset value of $816 million.

Invesco High Yield Municipal A (ACTHX - MF report) invests heavily in municipal bonds. It invests a minimum 75% of its assets in medium and low rate municipal bonds that are expected to provide high yield. The fund also invests a maximum 25% of its assets in bonds that derive revenues from industrial development.

ACTHX returned 6.03% over the last one-year period. It has an expense ratio of 0.93% and a net asset value of $4.65 billion.

Eaton Vance National Municipal Income A (EANAX - MF report) invests a large portion of its assets in municipal bonds, the interest on which is tax-exempted. The fund invests a minimum 65% of its assets in municipal bonds rated no less than investment grade at the time of investment. It seeks tax exempted current income.

EANAX returned 4.82% over the last one-year period. It has an expense ratio of 0.67% and a net asset value of $1.90 billion.

Nuveen CA High Yield Municipal Bond A (NCHAX - MF report) seeks high level of current income. The fund invests a lion’s share of its assets in tax-exempted interest paying municipal bonds. The investment includes obligations approved by the State of California or by its affiliates, or issued by other states of the US. John V. Miller is the fund manager and has managed this fund since 2006.

NCHAX returned 5.97% over the last one-year period. It has an expense ratio of 0.85% and a net asset value of $304 million.

Pimco High Yield Municipal Bond (PYMAX - MF report) seeks high current income exempt from federal income tax; total return is a secondary objective. The fund invests at least 80% of its assets in debt securities whose interest is, in the opinion of bond counsel for the issuer at the time of issuance, exempt from federal income tax. It may invest, without limitation, in higher rated Municipal Bonds. The fund may invest up to 30% of its assets in "private activity" bonds whose interest is a tax-preference item for purposes of the federal alternative minimum tax.

PYMAX returned 7.15% over the last one-year period. It has an expense ratio of 0.85% and a net asset value of $143 million.