Where else can you get guaranteed tax-deferred interest on a safe and liquid investment while knowing that if interest rates go up, yours will also likely go up? That is what makes I bonds an excellent choice for a safe cash investment.
I Bonds Can Supplement Your Emergency Fund
I bonds make a great second-tier emergency fund. They’re second-tier because you can’t sell them within the first 12 months of purchase, so you’d need other liquid funds to rely on while you build up a stash of I bonds. The most you can buy is $15,000 per person, per year; up to $10,000 in electric I bonds and $5,000 in paper I bonds. You can open an account directly with the Treasury Department through the TreasuryDirect website. There’s a $25 minimum for electric bonds and a $50 minimum for paper bonds. Interest earned on I bonds consists of both a fixed interest rate and an inflation rate. The fixed rate stays the same for the life of the bond, while the inflation rate is set twice a year. Interest is compounded semiannually and is tax-deferred.
How To Buy I Bonds
You can open an account line with TreasuryDirect, link it to your bank account, and transfer money to buy the maximum amount of I bonds each year. The minimum amount to purchase an I bond is only $25. You can purchase paper I bonds directly with your tax refund each year. You can use all or a portion of your tax refund.
TIPS vs. I Bonds
TIPS bonds (Treasury inflation-protected securities) are different from I bonds. Unlike I bonds, the interest on TIPS is not tax-deferred, so this vehicle may be best owned inside tax-deferred accounts like an individual retirement account (IRA) or Roth IRA. Unfortunately, you can’t open an IRA account directly at TreasuryDirect, so TIPS in your IRA must be purchased through a brokerage account.
Tax Treatment of I Bonds
The taxable income on Series I bonds can be deferred until the time of redemption. With bonds that have been held for decades, it can add up. If the proceeds are used for higher education expenses, the bond can be excluded from taxable income. Otherwise, the interest you earn on your I bond is subject to federal income taxes; federal estate, gift, and excise taxes; and any state estate or inheritance taxes.
