Understanding the Pros & Cons of I Bonds
The purchase limitations and the lock-up periods should be evaluated
Series I Savings Bonds are U.S. savings bonds designed to protect the value of your cash from inflation. I Bonds have been around since the late 1990s. With inflation surging to 40-year highs, investors have shown renewed interest in I Bonds.
Before deciding to rush out and buy I Bonds, make sure you understand the pros and cons. This is critically important given that most will instinctively leap to own a security that pays out an annual rate of over 9%. But, like any investment, know what you’re buying before you buy.
What is an I bond?
A Series I Savings Bond (I Bond) is a security that earns interest based on both a fixed rate and a rate that is set twice a year based on inflation. The bond earns interest until it reaches maturity at 30 years, or until you cash it out, whichever comes first.
How much are I Bonds?
- When you purchase an I Bond you pay the face value of the bond. For example, you pay $50 for a $50 bond.
- Electronic I Bonds come in any amount for $25 or more. For example, you could buy a $50.23 bond.
- Paper bonds are sold in five denominations: $50, $100, $200, $500, $1,000
What’s the interest rate?
- An I Bond earns interest based on the combination of a fixed rate and an inflation adjusted rate.
- The fixed rate is set each May and November. It applies to all bonds issued in the six months following the date the rate is set. The fixed rate applies for the life of the bond. The fixed rate is currently 0%.
- The inflation rate is set each May and November. It applies for six months to all I bonds ever issued. The current semi-annual inflation rate (set on May 1, 2022) is 4.81%.
- Composite rate = [fixed rate + (2 x semiannual inflation rate) + (fixed rate x semiannual inflation rate)]
- The current composite annual rate is 9.62%.
- A new rate will be set every six months. The new rate takes effect based on issue month of the bond. For an I Bond issued in January, the new rate will take effect on January 1 and July 1.
- I Bonds issued with a fixed rate of 0% will have a very low interest when inflation is low or negative. However, the rate will never be below 0%.
How is the interest rate applied?
- Interest is accrued semi-annually and added to the face value of the bond. When you cash out the bond you will receive the original face value plus all accrued interest.
How can I buy I bonds?
- Electronic bonds can be purchased by establishing an online account at TreasuryDirect.
- Paper bonds can be purchased only through application of your income tax refund. See TreasuryDirect for more information.
Who may own an I Bond?
- Adults who have a Social Security Number and meet any one of these three conditions:
- United States citizen, whether you live in the U.S. or abroad
- United States resident
- Civilian employee of the United States, no matter where you live
- Children Under 18, if they meet one of the conditions above for individuals.
- A parent or other adult custodian may open for the child a TreasuryDirect account that is linked to the adult's TreasuryDirect account. The parent or other adult custodian can buy securities and conduct other transactions for the child, and other adults can buy savings bonds for the child as gifts.
- Utilizing the income tax refund program, adults may buy paper bonds in the name of a child.
How much in I Bonds can I buy for myself?
In a calendar year, you can acquire:
- Up to $10,000 in electronic I Bonds in TreasuryDirect per owner.
- Up to $5,000 in paper I bonds using your federal income tax refund
- The limits apply separately, meaning you could acquire up to $15,000 in I bonds in a calendar year.
- The limits apply per Social Security Number of the first person named as owner of a bond.
- Bonds you purchase for yourself and bonds you receive as gifts or via transfers count toward the limit.
- If a bond is transferred to you due to the death of the original owner, the amount doesn't count toward your limit
- If you own a paper bond issued before 2008, you can convert it to an electronic bond in your account in TreasuryDirect regardless of the amount of the bond. (The annual limit before 2008 was greater than today's limit of $10,000.)
Can I buy I bonds as gifts for others?
- You can buy electronic bonds as gifts for any TreasuryDirect account holder, including children.
- Using your tax refund, you can request paper bonds in the names of others and then, once the bonds are mailed to you, give the bonds as gifts.
- The purchase amount of a gift bond counts toward the annual limit of the recipient, not the giver. So, in a calendar year, you can buy up to $10,000 in electronic bonds and up to $5,000 in paper bonds for each person you buy for.
What are the tax consequences?
- The interest earned is subject to federal income tax, but typically exempt from state and local income tax.
- The interest (and sometimes principal) is also subject to any federal estate, gift, and excise taxes as well as any state estate or inheritance taxes.
- You have the option to report the interest every year on your tax return or to defer until the year that you
- Cash out the bond
- Give up ownership of the bond and the bond is reissued
- The bond stops earning interest because it has reached final maturity
Know the Limitations!
- You must hold the I Bond for at least one year before cashing it out.
- If holding it for more than one year but less than five years, you will lose three months worth of earnings when cashing out.
- I Bonds issued today will have a lower interest rate if the inflation rate declines. The rate could be as low as 0%.
Perhaps the benefits and the inflation protection are appealing. However, like any investment, make sure that you understand the limitations and that I Bonds fit well within your overall financial plan.
For more information regarding I Bonds and other securities issued by the US Treasury Department, visit TreasuryDirect online.
Copyright © 2022 FMeX. All rights reserved. Distributed by Financial Media Exchange.
Nothing contained herein shall constitute an offer to sell or solicitation of an offer to buy any security. Material in this publication is original or from published sources and is believed to be accurate. However, we do not guarantee the accuracy or timeliness of such information and assume no liability for any resulting damages. Readers are cautioned to consult their own tax and investment professionals with regard to their specific situations.