Fight Inflation with Series I Bonds

Even with interest rates on savings accounts and certificates of deposit crawling up in the wake of the Federal Reserve’s interest rate hikes, the 9.62% composite rate on newly issued Series I savings bonds is hard to ignore. That composite rate consists of a fixed rate, which is currently 0% on new bonds, and an inflation rate, which is based on the government’s consumer price index and adjusts every six months from the bond’s issue date. That rate has turned the once-sleepy Series I savings bond, with sales in the millions of dollars) into the latest hot commodity, with sales in the billions. (Okay, hot security.)

Consumer prices rose 1.3% between May and June, up 9.1% from a year earlier, the largest increase in 31 years. Prices have risen across the board, with everything from eggs to rents increasing. Kiplinger forecasts inflation staying around that level for the rest of 2022. If you’re thinking, that’s a lot of numbers that don’t quite match what the bond is paying now, we understand. While the process of how the bond rate is set is dead-simple (at least, if you’re an economist at the Bureau of the Fiscal Service), what each individual bond holder earns in the long run depends on when you buy the bond. 

That is, if you can buy an I-bond. These days, there are two ways to buy an I-bond, but one is so arcane that if you didn’t already plan for it as part of your 2021 tax filing, you’ll need to wait until next April (more about that later). Most people in pursuit of a Series I savings bond will need to use – or set up – a TreasuryDirect account to buy savings bonds electronically.

Tread Carefully with TreasuryDirect

The somewhat archaic software of TreasuryDirect demands that you move deliberately. Users have found the site buggy and unforgiving, and – this is something we’ve personally experienced – you can forget about getting help on the phone. Treasury Department officials say they’re working on fixes, including a revamp of TreasuryDirect. In the meantime, our counsel:

If opening a new TreasuryDirect account:

• Have all your information handy, including the bank account you intend to link (routing and account numbers)
• Link a bank account that you plan on using for a while
• Don’t try to use a password manager
• Don’t be hasty; mistyping characters could be unfixable

There Are Downsides to Series I Bonds

You can’t redeem an I bond within the first year, period. If you cash it in before five years have passed, the penalty is the last three months’ worth of interest prior to redemption—considerably less severe than the early-withdrawal penalties on most five-year CDs. Even if you pay the penalty, “you will still likely be far ahead of where you’d be if you just earned the standard interest rate on your bank savings account,” says Matt Hylland, a financial planner in Cedar Rapids, Iowa. A savings account or money market deposit account is the best choice for money you may need to access immediately, such as an emergency fund, but I bonds can fit well into a longer-term savings stash.

Despite the 9.62% rate (for now) you’re not going to get rich on savings bonds. The main reason is that the government has put a low cap on this program. Each calendar year, each individual can purchase up to $10,000 in electronic I bonds at treasurydirect.gov, plus up to $5,000 in paper bonds with your federal tax refund (that’s the arcane method; we’ll get to that, eventually). So, a married couple can purchase up to $20,000 electronically, and $10,000 on paper.

Also keep in mind that the inflation rate you receive will reset every six months, and that the underlying fixed rate is zero. It’s not just possible that a Series I bond will pay zero, zilch, nada – it has happened: in 2009, when consumer prices were falling. By law, the rate can’t go below zero. But remember, you could redeem your bond after a year, and to avoid the modest penalty, you only have to hold out for five years. 

Are Series I Bonds Tax-Free?

You don’t pay state or local income tax on the interest, and you can defer federal income tax until you redeem the bond or it reaches maturity after 30 years. And even the federal liability can be waived if the proceeds are used for qualified education expenses, but this process has income limitations, requires careful planning, and has important other regulations you can learn about in Taxes on I Bonds in 9 Common Situations.

How Can I Buy More Than $10,000 of Series I Bonds a Year?

Once upon a time, all savings bonds were issued on paper. The program, in fact, dates back to the Great Depression, and President Franklin D. Roosevelt was the first to buy what became known as a “baby bond.” Savings bonds became war bonds and were huge during World War II. Despite this history, marketing costs money, and in an effort to reduce costs, the Treasury Department converted to digital sales (through TreasuryDirect), with one exception.

If you want to buy up to another $5,000 of Series I savings bonds every year on top of the $10,000 a year you’ve already bought, you can do so. But only by applying your tax refund to that. And these will be issued on paper, with Helen Keller, Chief Joseph, or George C. Marshall on them (among others). You can even designate a beneficiary or co-owner through this program, which you can read more about from the IRS. So, crank up that withholding at work or plan on putting in some extra money to the IRS when you file next year – basically,prefunding your bond purchase.

If you really want to go all in, you can buy bonds in your children’s names (they kids need to be under 18, and purchases treated as gifts, an important distinction) or on behalf of entities you control, such as trusts or LLCs. Remember, though, that each of these will need to have their own TreasuryDirect account, so the caveats about careful administration apply.