While inflation has receded from its historic 40-year peak in 2022, and a volatile equity market has recovered and reached all-time highs (as of June 2024), many investors remain concerned about the potential for a long-lasting inflationary environment and are eager to find attractive investments where they can safeguard their money without it losing value.
For some, that could mean a high-yield savings account or Treasury Bills. As of June 2024, interest rates of high-yield savings accounts are over 4% and 1-12 month T-Bills are paying over 5%. For others, I bonds could be the right option for protecting against inflation.
In this Insight, I explain the fundamentals of I bonds and why they offer a flexible solution to earn money at the prevailing rate of inflation.
I bonds is short for Series I Savings Bonds, a special type of non-marketable bonds provided by the U.S. government as an option for investors to protect their purchasing power against potential inflation. In short, they offer a variable interest rate that is adjusted every six months using a calculation that incorporates both a fixed rate and inflation (see below).
I bonds can bea great option to earn an attractive return and limit the risk of losing your money, providing a hedge against inflation, with a current annualized return of 4.28% on newly issued bonds through October 31, 2024.
Individuals can purchase up to $10,000 worth of I bonds in one calendar year, with an additional $5,000 available if you use your federal income tax refund to make the purchase.
An I-bond can earn interest for up to 30 years, but investors can cash out at any time after 12 months. In the event an investor decides to sell the I bonds within five years of purchase, they will have to relinquish the last three months of interest earned on the bonds upon sale.
Any U.S. resident, civilian, or legally employed person is eligible to purchase I bonds. They can even be bought by people under the age of 18, trusts, estates, partnerships, and even corporations.
You can purchase I bonds directly from the Treasury Direct website. The minimum purchase is either $25 (electronic bonds) or $50 (paper payment). In addition to buying your bonds on the Treasury Direct website, this site provides users with extensive information on the bonds. Because they are purchased through the Treasury Direct website, there are no commissions or ongoing management fees.
I bonds begin to accrue interest on the first day of each month (applied to the month in which the bonds were issued). The rate for the next 6 months on any newly issued I bonds bought from May 1, 2024 to October 31, 2024 is 4.28%.
There are two components that make up the interest rate on I bonds: 1) Fixed Rate, and 2) Inflation Rate. The fixed rate is the rate stated on the bond when it is issued and will not change throughout the life of the bond. For example, I Bonds bought from May 1, 2020 to May 1, 2022, the fixed rate was 0% and will remain 0% for the life of the bond. For I bonds bought after May 1, 2024, this rate is locked in at 1.4%.
The inflation rate can be looked at as the variable rate associated with the bonds. This is the rate that will change every 6 months based on the rate of inflation in the economy. The inflation rate on bonds bought through October 31,2024 is 2.98%.
Every six months from the time the bond is issued, interest is added to the bond's principal value which creates the new principal value. Over the next six months, the new interest that accrues is based on this new principal value.
I bonds are not taxed on the state or local level, but they are taxed on a federal level. If used for qualifying education expenses, they may be able to avoid taxation altogether. Bondholders have the option of including interest income in the year it is earned or in the year that the bonds are sold or mature. Most taxpayers opt for the latter.
I bonds can be a great way for people of any age or financial status to earn income while protecting against inflation and uncertain market conditions without risk of losing principal as these bonds will not decrease in value like other bonds may.
Our team at Wealthstream Advisors is here to help you make the best decision for your investment portfolio. Whether it pertains to I bonds or any other asset class, our financial advocates have years of experience helping investors get the most out of their capital. If you’d like a consultation, don’t hesitate to reach out to us today.