Series I Savings Bonds

Hello folks,

Today, we are going to be exploring the Series I Savings Bond.

Now before we do a deep dive, I want to make an important distinction between these savings bonds and bond index funds. Bond index funds are not bonds, just as a US stock market index fund is not a stock. An index fund is a pooling of stocks, which automatically adjusts to some index like the S&P 500, the CRSP US Total Market Index, or others. In my opinion, for most pharmacists and working professionals, 0% bond index fund exposure is perfectly fine for the first 25 years of a 40 year working career (25-65 years old). Series I Savings Bonds are a different financial instrument, as these are actually bonds, and they are issued by the US government at treasurydirect.gov.

What are Series I Savings Bonds?

These are bonds that are pegged to two rates, a fixed rate and inflation. At this point in time, these are an attractive option, because the interest rate on these is currently sitting at 9.62%. The US stock market, over long time horizons, has returned between 7-10%, historically speaking.

So, who is this product right for?

Now, I am not suggesting investing in Series I Savings Bonds as an alternative to investing in the US stock market in a 401(k), Roth IRA, or HSA. In my opinion, there are important tangibles you must understand before purchasing the Series I Savings Bond.

Let’s say you have a $25,000 emergency fund, which is overfunded by $15,000. You can contribute $10,000 of this extra $15,000 into this bond. The maximum allowable contribution into the Series I Savings Bond is $10,000/year. There are other important limitations to consider before you invest.

Firstly, you may NOT cash out your bond before 12 months. Therefore, if you cannot go without this investment of $10,000 for a year, do not buy this bond. The Series I Savings Bond will continue to accrue interest for 30 years. I will not be holding this for such a long period of time. Personally speaking, this is just a short term play while inflation is still high.

Secondly, if you cash out the bond before 5 years, you must pay a penalty, which amounts to the last 3 months of earned interest on the bond. Therefore, if you want to cash out if the rate drops below what you think is worthwhile, wait three months. Then, redeem it, so you get penalized on the lower interest rate.

Thirdly, to reiterate, you are not taking money that you would be otherwise investing in a 401(k), Roth IRA, or HSA and putting it into the Series I Savings Bond instead. If you can put money into these other vehicles, again personally, I think that would be the smarter move.

But Mandeep, stock market returns year to date are -20% and this savings bond returns almost +10%. Why on earth would you put money into something that has negative returns?

Because you buy things when they are cheaper, not when they are more expensive. If the stock market was up 50% year-to-date, would it be a good idea to throw extra cash at the US stock market? No! This is the opposite of what you want to do; this is buying high and hoping to sell higher someday. Extra is the operative word here; at Tangibles, we do believe in dollar cost averaging into low cost market-cap weighted index funds, which means buying at all times; this is a Shiller CAPE ratio agnostic strategy. If you have exhausted most other vehicles, then, sure, throw extra cash into index funds.

The adage is buy low, sell high. Of course, you won’t be selling, but it makes more sense to buy stocks when they are in the Ross clearance aisle at 20% off. Bear markets and recessions are a great time to load up on stocks or market-cap weighted index funds since you can buy more units for the same dollar amount.

Fourthly, you understand that you are locked into the specified interest rate for a 6 month period.

There are two 6 months periods to keep in mind. The first is twice a year where the government sets a rate for the Series I Savings Bonds. This occurs in May and November. The first 6 months is when the government sets the rate; more correctly, when inflation sets the rate. The second 6 months you need to keep in mind is the rate YOU earn depending on when YOU purchase the Series I Savings Bond. This 6 month period depends on YOU. For example, if you buy Series I Savings Bonds in say, April, and the rate was 7.12%, you would be locked in at 7.12% for 6 months even though the government sets a new rate in May. The new May rate would be effective once you have hit the 6 month time point, which occurs in October. This is why the April date was so critical, because if you bought these Series I Savings Bonds in April, you would have been locked in at 7.12% for 6 months and the current rate, which is 9.62%, for the next 6 months. Now if you missed out on buying this in April, you can still buy it now at the 9.62% rate, but we have no idea what it will be during the next 6 month period. As one of my favorite Chinese proverbs goes, the best time to plant a tree was 20 years ago; the second best time is today.

But Mandeep, what about taxation? Good question. These Series I Savings Bonds are subject to federal income tax, but not to state or local income taxes. Federal estate, gift, and excise taxes as well as any state estate or inheritance taxes also apply. If you would like to learn more about these Series I Savings Bonds, like most things in life, just google it. You can google “Series I Savings Bond” and the first link should take you to the treasurydirect.gov page. Alternatively, you can click the link here. They have a fairly comprehensive FAQs page and other more minute points of consideration.

To view historical rates, please click here.

Now, if you are new to personal finance and investing, the Series I Savings Bond is a minor point of consideration. The higher impact item to address is gaining a 40,000 foot view of investing strategy. How can you get all of the battle-tested, tried and true knowledge as quickly as possible? I wrote a book explaining exactly this; it's short; it's cheap, and it's written in plain English. You can find it here: https://amzn.to/32PLB3x.

Summary of Limitations for Series I Savings Bonds

• Contribution cap of $10,000/year

• May not withdraw investment for 12 month period (1 year lock-in)

• 3 month interest penalty if held less than 5 years

• Not an alternative to investing in low cost market-cap weighted index funds in a 401(k), Roth IRA, or HSA. This is an additional strategy to deploy after these other accounts have been fully funded.

• Interest rate on bonds set every 6 months (May and November).

• Your interest rate is locked in for a 6 month period from the date of purchase.

• Federal taxes apply. State and local income taxes do not apply.

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Disclaimer: The article above is an opinion and is for informational/educational purposes only. It is not intended to be investment advice. Seek a duly licensed professional for investment advice. The author has taken care in writing this post but makes no expressed or implied warranty of any kind and assumes no responsibility for errors or omissions. No liability is assumed for incidental or consequential damages in connection with or arising out of the use of this information.