Hugh F. Wynn
I Bond Interest Rates - and Interest in I Bonds - Continue to Grow
The I Bond interest rate is experiencing another - possibly record-high - growth spurt. I hesitated to even think it was possible, but here we are in May 2022 with a 9.62% composite rate that is more than 2% higher than before. If I were you, I might take a look at these inflation-adjusted alternatives to the rather basic and boring bank savings options. Just sayin'. Since I’m not a credentialed financial advisor, the answers (observations) I give are strictly my opinion.
I Bond Rising
I thought the I Bond's previous interest rate - 7.12% - was impressive and then came its six-month adjustment (May 1, 2022, through October 31, 2022) to 9.62% in May. That was based on the March inflation report. The I Bond’s interest rate combines two separate rates: (1) a rate of return that remains fixed throughout the bond’s 30-year life (currently zero), and (2) a variable six-month inflation rate based on changes in the Consumer Price Index for Urban Consumers (CPI-U). This index tracks the cost of everyday consumer goods and is used by the Treasury Department to calculate inflation rates. The combination of rates is called the composite rate. Because of this I Bond/CPI intersection, when inflation goes up the variable interest rate on I Bonds increases as well.
So the fixed rate (as of May 1), as expected, remains at 0.00% and the variable six-month inflation rate at 9.62% for a composite rate of 9.62%. That's a 2.5% increase over the previous six-month inflation rate of 7.12%, which ended April 30. All I Bonds (including those purchased before April 30) will get six months of the 9.62% interest rate, but the starting month for the new rate will depend on the month the I Bond was originally issued.
Lots of numbers, I know, but they're impressive numbers.
Set the Record Straight
The 7.12% variable rate was already a record high for the I Bond, dating back to September 1998. So this current rate of 9.62% sets a new record – possibly never to be seen again. Although there is speculation that this 9.62% rate could mark the peak from which a gradual decline begins, never say never. Timing inflation is probably about as iffy as timing the market. .
Still, even if you bought your I Bonds before April 30, 2022, you won. You locked in the then 7.12% rate for a full six months followed by 9.62% for the subsequent six months. In today’s low-yield (but rising) interest rate market, that’s a rate of about 8.4% on a very safe investment for at least one year.
Let the Good Times Roll
If today’s inflationary environment persists, it makes sense to continue buying I Bonds annually up to the purchase cap of $10,000 per person per year and simply hold them until the money is needed. Those among us who have been buying I Bonds on an annual basis are happy (particularly in 2022) collecting these record rates of interest, plus any prior fixed rate attached to our original purchases.
Looking down the road, it probably doesn’t make sense to wait for a fixed rate above 0.00% - that might never come - and risk missing out on an opportunity like the current and prior periods. Still, the outlook is improving for a fixed rate higher than the current 0.0% on future purchases. With Federal Reserve announcements of several inflation-fighting interest rate increases of 0.50% (one which has already been implemented), there could be an I Bond fixed rate above 0.00% in November 2022, which buyers could pounce on when the calendar resets in January 2023.
Maximize Your Investment
Yes, there is a $10k per year ceiling on I Bond purchases - so how do you maximize your family's investment? Depending on an individual or a family’s personal circumstances, where there’s a will, there’s a way.
Open individual accounts on Treasury Direct for each spouse.
If you own a business, open an account for an S Corp or an LLC.
Set up an account for a revocable living trust.
Consider this best-case I Bond purchasing scenario for a married couple with kids, each with a trust, each self-employed, and each with a tax refund of up to $5,000:
$10,000 for Dad’s personal account
$10,000 for Mom’s personal account
$10,000 for Dad’s trust account
$10,000 for Mom’ s trust account
$10,000 for Dad’s business account
$10,000 for Mom’s business account
Up to $5,000 for Dad using tax refund money (if he files separately)
Up to $5,000 for Mom using tax refund money (if she files separately)
And more if they wish to open accounts in their kids’ names and buy as gifts for other family members
As you can see, there are a range of opportunities for different folks to surmount the per annum $10,000 purchasing cap.
I Bonds for Rainy Days
I've talked about using I Bonds as a way to hold emergency funds in an account - an alternative to keeping them in your friendly neighborhood bank, which will always pay you as close to 0.00% interest as possible. It’s part of their vampire DNA.
However, there is a caveat. I Bonds can’t be cashed out for at least one year after purchase, and if a bond owner cashes out after the first year, but before five years, he or she loses the most recent three months of interest. For these reasons, and because you need some form of liquidity in your emergency fund, you should perhaps avoid investing all Rainy Day dollars into I Bonds at once.
If you have no I Bonds, then purchase up to $10,000 (or more if you and a spouse can afford it) and start letting the clock run out on the 12-month period during which you cannot sell the bond (s). To cover that first year, you’ll probably have to allow the bank to drain a pint or two of your blood by storing an immediately available (liquid) emergency fund with them. Once those initial I Bonds reach their first birthday, they, too, become immediately redeemable, and you can close that low or no-yielding bank account. And, if need be, you can continue to buy more I Bonds until your emergency fund is where you need it to be.
If you redeem I Bonds early you do face that three months of interest penalty, but I’m betting you’ll still be way ahead of what you would have if all of your money was earning bank-rate interest. And, after five years, those penalties start melting away as your I Bonds age.
By the way, if new I Bonds happen to be issued with higher interest rates, you can redeem your lower-interest bonds and use the proceeds to buy higher-interest instruments, subject to that one-year delay and three-months interest penalty business.
In contrast with a marketable bond, this maneuver won’t work because the open market ensures that you will be selling your lower-yielding, old bond at a discount and thus, by definition, can only buy a smaller amount of the higher-interest replacement bond. Not so with I Bonds. Why is this, you ask? I Bonds are not marketable securities - they are not sold in an “after market.” They are redeemed with the U.S. Treasury at an agreed upon value, which includes the inflation adjustment.
I Bonds are a small investor’s tool to battle the erosion of their purchasing power during inflationary times. Hopefully, the Federal Reserve will finally (and soon) get today’s inflation spiral under control, and we won’t have to deal with inflation (at least at these levels) over the long run. But even if taming inflation results in lower I Bond rates - and it will - the odds are good the reduced rates will be better than those…ahem…“high-yield” savings account rates offered by our less than benevolent banker friends.