What are I Bonds?
Series I Savings Bonds are a U.S. savings bond that protects the value from inflation. They are as close to a “risk free” investment as you can get since they are back by the U.S. Government.
How to buy I Bonds
- I Bonds are purchased through the U.S. Treasury website (https://www.treasurydirect.gov/).
- Cannot be purchased in a standard brokerage account.
Purchase Limits
- Purchase limit of $10,000 per person each year. Plus an additional $5,000 in I Bonds if you use your tax return.
- You can buy them for your kids.
How is the yield determined?
- The yield is determined every 6 months. Compounded semiannually.
- The actual interest rate is determined by the combination of a fixed rate and inflation rate using an equation.
- Fixed Rate
- This rate never changes, and is the rate you get when you buy the bond.
- Announced every six months by the Treasury.
- Inflation Rate:
- Rate changes every six months.
- Based on changes in inflation reports (CPI-U) for all items.
- Rate set each May and November and applies for the next six months.
- The combined rate will never be less than zero, but can be lower than the fixed rate (if inflation is negative).
Earning interest
- Interest is added to the bond each month, then paid out when the bond reaches 30 years or you cash it out.
Liquidity
- Bonds can be cashed after 12 months.
- If the bond is cashed before 5 years, you will lose the last three months of interest. After 5 years, there is no penalty.
Taxes
- Federal tax is owed on the bond interest, but not state or local tax. You will receive a 1099-INT Form.
- You can elect to report interest each year, or defer reporting interest until you cash the bond, give up ownership, or the bond matures.
- Tax free if used for education (Must qualify) see: https://www.treasurydirect.gov/indiv/planning/plan_education.htm
How to use I Bonds
- 1-4 year goals. Since money is tied up for at least one year, I Bonds can make sense for goals in the next few years since the value is not subject to volatility (Travel, wedding, new car, down payment, starting a business, gifts, education etc.).
- Park excess cash above emergency fund / cash reserves or funds from CD’s.
- Consider I Bonds instead of making additional mortgage and low interest loan payments. For example, if you have really low mortgage rate, the earnings from bond interest may outpace your mortgage rate interest (interest rate arbitrage). This can help keep your money working for you, instead of giving it to you mortgage or loan provider, while maximizing your money.
Other Considerations
- Don’t expect a user-friendly website and navigation on https://www.treasurydirect.gov/
- Lack of liquidity. Money is tied up for at least one year. Consider a savings account for liquidity needs within one year.
- The $10,000 limit creates a ceiling on your return. You’ll need to decide if the interest on $10,000 is worth investing in I Bonds.
- I Bonds are cash/fixed income style of investment. Your allocation to I Bonds should be part of the fixed income strategy and not part of your equity/asset investment strategy.
- To learn more about I Bonds and determine if they’re good for your financial situation, go to https://www.treasurydirect.gov/ and/or work with your financial professional.
