Okay, so you thought my advice to invest in real estate was too risky. And you never really cared for my advice to invest in stocks. What is a person to do when they want better rates than the banks can offer but still feels secure?
Believe it or not, there is an option for you.
If you are a maverick and already followed my suggestions above, pay attention, because this investment vehicle is a good place to park part of your emergency fund.
Savings bonds are not as sexy as the stock market or REITs. In fact, when you think of bonds, you think of a conservative strategy best used the closer you get to retirement. This is because the closer you get to retirement, the less volatility you want to see in your investments. You worked hard for your money, and the last thing you want is to see your stash take a hit just when you’re ready to start leaning on it.
The safest place to park your cash is in a savings account. If you can stand to lock up your money for a spell, the next best place to store your cash is in a certificate of deposit, but as we’ve discussed in a previous post, both these options yield little in the way of returns.
Let’s talk specifically about the Series I bond. This is a government-backed savings bond, and every six months, May and November, the U.S. Treasury adjusts the interest rate based on inflation, specifically the Consumer Price Index for all Urban Consumers (CPI-U). The savings bond carries a fixed interest rate plus an additional inflation adjuster so you get an inflation-adjusted rate of return. Compare this to something like a certificate of deposit where, depending on the account, your money could lose out on a higher interest rate during the time your money is locked up.
Perhaps you’ve noticed your grocery bill grow recently? That’s just one indicator of inflation, and while generally a bad thing, inflation is a good thing for the Series I bond–which, as of November 1, is set at an inflation rate of 7.12% or 3.56% earned over six months. Find me just one bank that can deliver that sort of return on a conventional savings account. If you find one, leave it in the comments.
The US Treasury Department allows us to purchase up to $10,000 in Series I bonds per person, per year. You can buy an additional $5,000 in Series I bonds if you use your tax returns, which we’ll touch on shortly. There are two ways to make those contributions.
First, you can go to TreasuryDirect and spend less than five minutes opening an account. After linking a savings or checking account, you can transfer whatever amount you wish. I initiated a transfer on a Friday afternoon and saw the funds successfully transfer by the following Monday morning.
The second way is to make contributions using your income tax refund. Using IRS Form 8888, your refund can be disseminated to one of several account options, including an online TreasuryDirect account. The only caveat is the IRS will only allow you to contribute $5,000 of your refund. If you want to buy $15,000 worth, you’ll have to use your bank to pony up the remaining ten grand.
If you believe in the full faith and credit of the United States, you can rest assured your money will be protected. Ever since these bonds were introduced in September 1998, there have only been two negative adjustments, but even if there were negative drops, your returns never drop below 0%.
Series I bonds are exempt from state and local tax. They are not exempt from federal tax, but qualified higher educational expenses could make your interest tax-exempt.
So, what’re the down sides?
Let me reiterate that in terms of risk, there is no risk of losing money. If you fear the economy will collapse, then we’d be talking about a different topic altogether, but honestly, if you truly believed the economy was on the verge of collapsing, you wouldn’t be reading this blog, now would you?
If you contribute money to a Series I bond, you cannot withdraw the money for twelve months. In this manner, it is similar to a certificate of deposit. The difference is that a certificate of deposit would allow you to make a withdrawal, albeit with a penalty.
The second down side is that if you withdraw the money before the five year mark, you would have to pay three month’s worth of interest.
Now, this second down side does not have to be painful. There is a way to strategically withdraw your money while minimizing the impact. I can’t see it happening, but if the inflation rate on May 1 drops to 0%, you could wait three months and transfer your money out with zero impact. 7.12% is pretty high though, so if you are patient enough, you could withdraw your money while only enduring the weight of the lower interest rate since it’s unlikely the inflation rate will remain at or higher than the current percentage.
And that’s really it!
Of all the investment vehicles out there, Series I bonds are pretty easy to comprehend. They’re no secret, but they tend to fly under the radar, because they lack the flash of other investment opportunities. There is a time and place for more aggressive strategies.
I personally took a chunk of my emergency fund and moved it into Series I bonds. Even my best money market option is not going to yield anywhere near comparable rates.
If disaster strikes over the next twelve months while that money is essentially frozen, I could sell stocks to remain afloat. I’ll likely shore up my emergency fund though and let those bonds mature over the long term. Considering the educational allowances, these bonds could be a competitive alternative to 529 plans.
These are not the only types of bonds out there. This is a good start though, and for minimal effort, I think it’s an option worth your consideration.
Thoughts? Questions? Let me hear from you in the comments!