Are Savings Bonds A Good Idea?

Maybe it’s time to reconsider that old-fashion savings bond, either for your own savings or as a gift. 

Years ago, savings bonds were a popular gift option for grandparents to give grandkids. But paper savings bonds are practically extinct, and bonds are no longer sold through financial institutions. Instead, savings bonds are now purchased and held via a virtual government account with TreasuryDirect. You must open a direct account, and you aren’t sent anything on paper. This makes Series EE bonds less attractive for a gift giver who wants to present something tangible.

Now it’s 2019.

We’re still seeing very low interest rates for savings accounts. We might see rising inflation sometime. You might be worried about an economic slowdown. You might be nervous about stock market volatility. So where might a saver look to stash away savings with interest? Believe it or not, the old fashioned savings bond might be an option.

Is It Time to Own Savings Bonds Again?

If you want to own or gift savings bonds, consider the Series I savings bond. Here’s why the I bond:

  • It’s gift worthy. While Series EE bonds can only be purchased electronically, adults can buy paper Series I bonds under certain conditions: 1) if you are buying a bond as a gift for a minor child and 2) if you are purchasing an I bond using your federal income tax refund, whether for yourself or others. (The paper bonds feature a picture of a prominent American citizen.)
  • Interest rates can go up. Unlike the Series EE, your interest rate is not fixed for the life of an I bond. Instead, you earn interest based on a combination of a set rate and an inflation rate, which is adjusted twice a year. For bonds purchased through October 31, 2019, the composite rate of interest is 1.90%. How does that compare to your savings account?

What You Should Know About Interest on I Bonds

Going forward, Series I bonds offer a better hedge. If inflation rises, your bond interest rate should rise too.

  • The inflation rate generally changes every six months (first business day of May and first business day of November). It is based on the Consumer Price Index for all Urban Consumers, including food and energy, non-seasonally adjusted.
  • The fixed rate portion will not change over the life of the I bond.
  • According to TreasuryDirect, the I bond “earnings rate cannot go below zero and the redemption value of your I bond can’t decline.”
  • I bonds earn interest every month, and it’s compounded semiannually. Interest accrues as long as you own the bond, for up to 30 years, by adding it to the bond.
  • An I bond can be redeemed after 12 months, but you will lose the last quarter’s interest if you redeem before you’ve held it five years.
  • You pay the face value of an I bond (so $50 for a $50 bond), and the bond increases in value as you accrue interest over the time you own it.
  • When you redeem an I bond, the interest income you’ve accrued becomes taxable (federal only, no state or local tax incurred).
  • You might be able to completely or partially exclude savings bond interest from Federal income tax. See IRS Pub 970 for details on this.

Buying an I Bond as a Gift?

Usually, you need to have a Treasury Direct account to buy and hold a bond. If you are only buying I bonds with your tax refund, you can skip the electronic account. But you need to complete and attach IRS Form 8888 to your tax return to give the IRS directions. The IRS will mail your bond(s) to you after your tax return is processed. You can buy bonds for yourself with your tax refund. If you are giving an I bond as a gift, the paper bond be delivered to you.

If you want to go online, you can learn how to open an account with TreasuryDirect here.

If you’re over 30, you may own the tangible Series EE bonds, which were originally purchased from a local bank or credit union for half the face value, that are at or near maturity. The EE bonds looked very official and ornate and displayed the ending value This would be $50, for example, for an original $25 purchase held to maturity of up to 30 years. (If you have an old bond, you can check the TreasuryDirect link above to see if your bond is still earning interest and learn how to cash it in.)

What About TIPS?

Incidentally, Series I savings bonds are not the same as TIPS, or Treasury Inflation Protected Securities. TIPS can be purchased from TreasuryDirect, a bank, a broker, or a dealer, and are not issued as paper. TIPS are marketable securities (can be bought and sold on the secondary market).

The TIPS interest rate is determined at auction. Your principal is adjusted according to changes in the Consumer Price Index. With inflation, your principal increases. With deflation, it decreases. When the principal of your TIPS grows in a given year, that growth is taxed as income in that year, even if your TIPS hasn’t matured and you haven’t received payment of the principal. You can learn more about TIPS as well as Treasury bills, notes and bonds at TreasuryDirect.

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