I bonds are a low-risk, long-term savings product offered by the US Treasury, whose returns are tied to current inflation rates. And with recent inflation hitting 40-year highs, led by soaring prices on food and gas, I bonds are currently paying over 7%. But, there’s no time to waste because you must purchase them by April 2022 to lock in current rates.
How do you buy I bonds?
To buy I bonds, or “Series I Savings Bonds,” you must purchase them directly from the US Treasury. Important: you cannot buy them through a Financial Advisor, Professional, or Institution.
The current rate is 7.12% if you buy before the end of April 2022, and the maximum purchase amount is $10,000 per individual or $20,000 per couple.
The IRS also allows you to use up to $5,000 of your tax refund to purchase I bonds by filing form 8888, Allocation of Refund at tax filing. Additionally, if you already have a TreasuryDirect account set up, you can transfer your refund there using these instructions from the US Treasury. This can be an excellent option for those receiving a refund and hoping to maximize their benefit.
What are the terms?
The minimum lockup period or “term of ownership” is one year, meaning that you should only buy I Bonds with funds you won’t need in the very near future. Additionally, if you cash in the bonds before five years, you must forfeit the interest from the previous three months. But after five years, there is no penalty when cashing in your bonds. Notably, you can earn interest for up to 30 years or until you cash your bonds in, whichever comes first.
Also, keep in mind that the interest rate is adjusted every six months based on current inflation rates. So, if you lock in your I bonds by the end of April 2022, that 7.12% rate is good for the first six months until the next adjustment.
How much are we talking?
Using an example from a recent Forbes article Run, Don’t Walk, To Buy Treasury I Bonds Paying Over 7% To Beat Inflation, we can estimate a total return of around 5.5% for the year (assuming you cash in the bonds at the end of the first year, forfeiting the previous three months of interest earned.) Obviously, this is an estimate, and returns will vary depending on actual inflation figures for the second six months of the year as well as how long you hold the I bonds. But, assuming a 5.5% total return on a $10,000 investment, that would yield $550 for the year. Assuming the same scenario with a couple purchasing $20,000 and selling after the first year, that’s an estimated $1,100 for the year.
Of course, nothing is good or bad unless we have something to compare it to, so considering that the average savings account is currently paying 0.06 percent, which would yield just $6 total for the year on a $10,000 balance, I bonds might be looking like a pretty smart buy.
So, should you buy I bonds or not?
I bonds may be a good idea, depending on your situation.
For example, if you’ve got cash sitting in a savings or checking account earning next to nothing and don’t plan to use the funds soon, consider I bonds to maximize your return. However, if you might need your funds within one year or less, I bonds may not be a good fit because of the 1-year minimum term.
Also, because I bonds must be purchased directly from the US Treasury and cannot be coordinated by your Financial Advisor or Financial Institution, you must be comfortable completing this transaction on your own. If you’re not, I bonds are likely not a good fit.
Unique tax benefits
Since I bonds are offered by the US treasury, they also come with unique tax benefits.
First, the interest you earn on I bonds is not subject to state or local income tax. This can significantly benefit those living in states with above-average income taxes like New York and California. However, keep in mind that you still have to pay federal income taxes on the interest you earn unless the I bonds are used to pay for qualified higher education expenses at an eligible institution and meet specific requirements.
You can choose to report the interest you earn annually or, like most people, defer reporting the interest until you cash in the bonds. To report the interest, you’ll receive a 1099-INT from TreasuryDirect once you cash in the bonds or the 30-year term is up. Here is a video from TreasuryDirect to help you find your 1099-INT form.
Here’s my opinion as a Financial Professional.
As a CFP® professional with over 3 decades of experience, I am always on the lookout for unique opportunities or advantages that I can offer my current and prospective clients. Right now, I bonds present an interesting opportunity to optimize idle cash reserves up to a certain amount. However, this may not be the case this time next year, so it is essential to evaluate this timely opportunity and decide if it is a fit for your situation.
If you want to discuss this opportunity with me directly, remember, I can’t facilitate the purchase, but I can offer my guidance and input.
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