Unless you’ve been living under a rock for the last year, you’ve probably heard of I bonds. What are they? Should you invest in I Bonds now, or are you late to the party? Read on to learn more about them and to understand if they may be a good fit for your situation.

What are I Bonds?

“I Bonds” is the common name for Series I Savings Bonds that the US Treasury issues at www.treasurydirect.gov. The interest rate on these bonds adjusts for inflation, and it resets every six months. I Bonds have been gaining popularity since 2021 as inflation (measured by CPI) began spiking above historical norms. 

The current rate for I Bonds is 9.62% which applies to the first six months you own them (if you buy before October 31st, 2022). This interest rate is insane for a risk-free investment – principal value plus interest is guaranteed! You cannot lose money on I bonds, and the return is close to the stock market’s historical average of 10% (which is NOT guaranteed).

For comparison, 1-year and 2-year Treasury Bonds currently yield about 4.15% and carry a risk of principal loss if you don’t hold to maturity. I Bonds continue to earn interest until you cash them in or until the bonds turn 30 years old. 

So what’s the hair in the soup?

A couple of things. First, you can only buy $10,000 of I Bonds per social security number per year. Trusts, businesses, and children can all purchase them, so a family of 4 with an LLC and a trust could buy a maximum of $60,000 in a calendar year. Additionally, you can use your tax refund to purchase up to another $5,000 worth. 

The second caveat is that you cannot redeem I Bonds in the first 12 months. So if you use your entire emergency fund to invest in them and your car’s transmission goes out a week later – tough break. That money is locked up for a year, and you might have to resort to a credit card. There’s also a three-month interest penalty if you redeem them within the first five years, although the interest rate is so high that this is not exactly a dealbreaker.

Finally, the interest rate adjusts every six months. The current rate for October 2022 – April 2023 is 9.62%, which means a 4.81% yield for the first six months you own them. The next six-month rate is 6.46% for the remainder of the first year (or the first six months if you buy November 2022 – May 2023).

Beyond that, the rate is uncertain but will be based on inflation metrics and has a floor of 0% (will not lose value).

How is the I Bond rate determined?

Consumer Price Index (CPI) is used to measure the level of a basket of consumer goods and is reported by the US Bureau of Labor Statistics monthly. The change (typically increase) in CPI over time is inflation. During the period of September 2021 to March 2022, CPI increased by 4.81% and this is what set the current I Bond annualized rate of 9.62% (4.81% semiannually x 2).

The next six-month rate is based on inflation from March 2022 to September 2022, and the CPI chart below shows how the rates are derived. CPI has been climbing quickly for the last two years but has virtually leveled off.

A $10,000 investment in October at 9.62% (for half a year) would generate $481 of interest, and your new principal value in March would be $10,481. At the next six-month rate of 6.46% (for half a year), the end-of-year value would be $10,820. A full year’s return of 8.2% – not bad!

At this point you have two choices:
1) Redeem the bond and forfeit 3 months’ interest, dropping your ending value to $10,650 – still a great risk-free return of 6.5%
2) Continue to hold the bond until rates are no longer attractive

I Bonds can be a great risk-free investment if you have idle cash laying around that you won’t need for at least a year. It’s important to note that they only keep up with inflation, and aren’t a replacement for a long-term investment strategy. The interest you earn on I Bonds is exempt from state and local taxes but is taxable federally.

If you decide to buy I Bonds, purchase in October to guarantee the 9.62% rate for the first six months and 6.46% for the second. I recommend not waiting until the last few days in case there’s an issue with the transaction or settlement.

For more information or to purchase, head over to https://treasurydirect.gov/savings-bonds/i-bonds/

Are you an I Bond investor?