I-Bonds For You

This will be useful to anyone that has $10,000 in a savings account earning nothing.

The current government rate on I-bonds is 7.12%. A quick rundown:

What is an I-bond?

A US savings bond issued by the Treasury intended to protect the owner from inflation.

How is the rate determined?

The rate is called a composite rate. It is comprised of a fixed rate plus a variable rate that is indexed to inflation. The variable rate is set every May and November based on the prior 6 months’ CPI-U index.

You can find the formula for the composite rate here, but the most important point is this:

The fixed-rate, currently 0%, acts as a floor. Even if CPI goes negative (as it did in the aftermath of the high 1970s inflation), you cannot earn less than 0% on the bond.

Is it taxable?

Only at the Federal level (so if you live in NJ, NY, IL or CA you should be buying these). You can report the interest on your tax form every year or you may defer it until you redeem the bond. Most people defer, but if your child owns it, you may prefer to claim the interest in the year it accrues. Details here.

If you use the proceeds for education, even the Federal tax can be avoided but there are many exceptions to this including income exclusions for high earners. Details here.

Are they liquid?

Unlike TIPs, these are not traded in the open market. When you buy them, they are associated with your social security number. If you want your cash back, you must redeem the bonds.

When can I redeem the bonds?

The bond matures in 30 years, but you cannot redeem them in the first year.

If you redeem a bond before it is 5 years old, you forgo the recent 3 months’ interest.

After 5 years, you may redeem with no penalty. Full details here.

Notice that if you bought these today at 7.12% interest, redeemed them in 1 year, and paid the 3-month interest penalty, you’d still be way better off than a CD or savings account, even in the worst-case.

To demonstrate that I’ll walk you through the math of buying $10,000 worth of bonds.

Nov 1: Buy $10,000 I-bonds

Nov 1- May 1, 2022: Accrue 3.56% interest. Accrued redemption value is $10,356.

Let’s also assume CPI-U magically drops to 0% for that time, resetting the I-bond variable rate to zero.

Nov 1, 2022: The bond has accrued no additional interest. You decide to redeem these stupid bonds, and forgo your last 3 months’ interest. Alas, there was no interest in the past 3-months, so there’s no penalty.

Net result: You earned 3.56% interest for 1-year and only pay Federal taxes on it. Still much better than a savings/CD account and no extra risk except liquidity.

Just for thoroughness, if the variable rate reset in May kept the rate the same at 3.56%, you’d get a compound result. You’d earn 3.56% on $10,356 of principal.

So what’s the catch?

There are a few.

  • You need a social security number.
  • You may only purchase up to $10,000 of them in a given year. (You can actually buy an additional $5,000 if you have a tax refund).
  • You need to spend 10 minutes creating a treasurydirect.gov account and remember that you have an asset there.

The upshot of all this

If the “catches” don’t bother you, this is free money.

There are other details such as how to buy them as gifts or for your children. You can explore that on your own here.

2 thoughts on “I-Bonds For You

  1. Hello, i tried to do this and treasurydirect.gov is making me mail in an account authorization form signed in the presence of a certifying officer at a financial institution in order to create my account. Is this normal?

    1. Hi Reginald

      I did not need to do this and haven’t heard that from others who have signed up.

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