Are I-Bonds for You?

You may have heard of the US Treasury’s Series I Savings Bonds (aka, “I Bonds”) as they’ve been in the news recently. Your crazy Uncle Charley may even pitch them to you and if so, read on to learn why he may not be so crazy.

What are they?

The “I” stands for inflation and these are inflation bonds marketed directly to individual investors by the US Treasury. Simply put, the interest rate you earn fluctuates based on the current rate of inflation as determined by the CPI (consumer price index). These bonds have a base rate and then an adjustable rate that re-sets every six months to the then current rate of inflation. They’re designed to protect investors from future increases in inflation (as we’re experiencing now).

The base rate is determined by the US Treasury and it’s currently 0%. You can think of the base rate as, more or less, the current “real rate” of interest (i.e., net of inflation but with a floor of 0%) for US Treasury bonds. The adjustable rate is simply the current inflation rate and that’s added to the base rate. In 2022, these bonds re-set to an annualized rate of ~9% due to the recent inflation surge and in early 2023, they’re at ~7%.

They have a term of 30 years but can be cashed in for no penalty after 5 years of holding them. After one year and before 5 years, you can still get your money back but there’s a small early redemption penalty.

What about taxes?

These bonds have good tax treatment. Like US government bonds generally, I Bonds are exempt from state and local income taxes. Also, while you do pay federal taxes on the interest, the tax is not due until you’ve redeemed the bond and received the interest. This means you can defer the tax for many years, if you chose, unlike most other bonds.

Why have they been in the news and are they a good deal?

The interest rate spiked on these due to the jump in inflation and it’s gotten notice in the press and the google tubes. Currently, they’re a great deal given how low rates are on other bonds, relative to the current inflation rate.

For example, in early 2023, a regular ten year Treasury bond currently yields ~4% and most bank CDs are ~5%. In contrast, these bonds now yield 7% and are backed by the full faith and credit of the US Treasury. In terms of the risk/return trade-off, that’s unbeatable.

Usually, and likely in the years to come, they’re a good deal but nothing special as you essentially earn the current inflation rate but nothing more.

What are the downsides?

The first important limitation is that any individual is basically restricted to a maximum purchase of $10,000 per year.  The second is that the Treasurydirect.gov website where you purchase and hold these bonds is really clunky. It looks like it was created at the dawn of the internet and has never been touched since then. It’s not that simple to sort through it.

Did Uncle Charley not tell you that?

Should you invest in them?

Maybe.

If you are rich, $10,000 per year is not going to make much of a dent in your portfolio and it just may not be worth the effort of another account to manage. If you’re not rich, you may not want to bother because if you need the cash before holding them for 5 years, you’ll pay a small penalty to redeem them early (3 months interest).

So, these I Bonds are worthwhile but they’re not going to be life changing for anyone.