I-Bonds “Real” Interest Rate Goes Back Above ZERO

 

I-Bonds “Real” Interest Rate Goes Back Above ZERO  — for the first time since the rate was set to zero back in Nov, 2010.

For the last three years, any newly purchased US Treasury Series I savings bonds – which pay interest which is a composite of a fixed “real” rate plus a variable “inflation” rate – have paid exactly ZERO for the fixed portion.

That compares to a peak “real” rate fixed at as high as 3.6% back in 2000.

Any such bonds purchased get the same CPI-U – based inflation rate plus a fixed rate which was set at the time the bonds were purchased.

So this is a big deal.  The government is finally willing to guarantee a return above inflation.  How high? 0.2%.

Read that again:  0.2%

This is an improvement over the 0.0% it’s been.

And, of course, this ignores the fact that eventually, unless the bonds are used under specific circumstances for higher education, all that accumulating (compounding) interest is going to be hit with income taxes, too. So even though the “real” rate is finally 0.2% above inflation, the net after-tax return still represents a loss over time to inflation for most taxpayers.

That all said, these may still be a good deal compared to reasonable alternatives such as an FDIC-insured savings account, a money-market fund, or even a bank CD, all of which pay less than this, may be subject to the same or more taxes.  One big issue for comparison is liquidity, and you are not allowed to cash out an I-bond at all in the first 12 months, and if its cashed out before 5 years, you lose the last 3 months of interest.

Even with the loss of some interest, these may be a good deal:

The combined composite rate right now of 1.38% on a bond bought between Nov 1, 2013 and Apr 30, 2014.  If you buy one of these and cash it out immediately after the 1-yr period, and therefore give up 1/4 of the interest, you will have still earned more than 1%.  The best you’re likely to find in a 1-yr CD right now is just about the same, and both are better than any FDIC insured savings account right now.  *And* if you don’t cash it out after that single year, your penalty effectively gets smaller (i.e., if you hold for 18 months and cash out, you only lose 1/6 of the interest rather than 1/4), eventually goes away, and the rate does adjust for inflation, which few CDs do.

For more information about US Treasury Series I bonds, see the US Treasury’s excellent Treasury Direct site at:

<http://www.treasurydirect.gov/indiv/research/indepth/ibonds/res_ibonds_iratesandterms.htm&gt;

As usual, this is not a recommendation to buy any security.

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