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REMEMBER THE OLD joke about the efficient markets theory? An economics professor and a student are walking across campus, when the student says, “Look, there’s a $100 bill on the path,” to which the professor replies, “That can’t be true, because somebody would’ve already picked it up.”
I’ve been thinking about that joke not because of the efficient markets theory, but because I’m amazed at how many smart people walk by a $100 bill every day. These folks have their emergency savings in an online bank, which right now might pay 0.5% interest. Many brick-and-mortar banks are paying one tenth that amount. Meanwhile, Series I savings bonds (don’t roll your eyes) are currently offering 1.68%. That’s an extra $118 in annual interest on a $10,000 emergency fund.
Friends will debate which exchange-traded fund is better based on a one basis point (0.01%) difference in fees. You’d need more than $1 million invested for one basis point to amount to $118—and yet could make that much extra simply by moving $10,000 from your online bank to an I savings bond.
For those not familiar with I bonds, they’re a type of U.S. savings bond that’s guaranteed to keep up with inflation. The Treasury Department introduced the I bond in 1998. When you buy one, you get a fixed rate that’s set for the life of the bonds. Currently, that fixed rate is zero, which doesn’t sound very appealing.
But on top of that fixed rate, you get inflation protection. To compensate for inflation, I bond holders receive a semi-annual interest rate that changes twice a year. Currently, it’s 0.84%. If you multiply that semi-annual interest rate by two and then add it to the fixed rate, you get the annual interest rate, which today is 1.68%. Like all Treasury instruments, I bonds are backed by the full faith and credit of the U.S. government.
The interest on I bonds is state tax-free. The interest can also be federal tax-free if you cash in the bond in the same year that you pay for higher education, though income restrictions apply.
What are the downsides? First, you have to hold an I bond for 12 months before you can redeem it, so you don’t want to invest all of your emergency savings right away and, instead, you should buy your I bonds gradually. If you redeem your bonds before five years have passed, you forfeit three months of interest.
Second, you’re limited in how much you can invest in I bonds. Each year, you’re allowed to directly purchase no more than $10,000 of I bonds. If you’re due a refund on your federal income taxes, you can also use that money to purchase an I bond, but only up to $5,000. The upshot: An individual can purchase $15,000 of I bonds per year, while a married couple is limited to $25,000, comprised of $10,000 each, plus up to $5,000 using their income tax refund.
The third issue isn’t really a downside, but rather something you have to get used to. Your broker can’t sell you I bonds. You can’t buy them on a secondary market. You can’t buy them from a bank (though your local bank may cash in your savings bonds for you). Instead, the only way to purchase I bonds are either with your tax refund or directly from the Treasury through TreasuryDirect.gov.
The website is user friendly. In about 10 minutes, you can set up an account, link it to a bank account and schedule the purchase of your first I bond. Result: You might spend 10 minutes and make $118 in extra interest.
Kenyon Sayler is a mechanical engineer at an international industrial firm. He and his wife Lisa are extraordinarily proud of their two adult sons. He enjoys walking his dog, traveling, reading and gardening. His previous article was Home Free.
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I’ve seen the suggestion somewhere (perhaps on Humble Dollar?) to deliberately overpay your federal taxes by $5000, and then use your refund to purchase an I bond.
lovely idea…
The problem with that plan is there are a number of non-refundable deductions and credits, which you only receive if you owe the IRS when you file. The Child Tax Credit is $2,000, but only $1,400 is refundable. To get full benefit of the Child Tax Credit, you need to underpay your federal tax by at least $600. Otherwise, overpaying by $5,000 to get a savings bond at 1-2% means missing out on $600 of the Child Tax Credit. Not good deal there.
I was with you until “The website is user friendly.” 🙂 That said, while Treasury Direct may be annoying, it’s worth the hassle.
I agree that Treasury Direct is not user friendly. It is easy enough to get an account, but navigating the site is a nightmare. I’m not using my account there right now, because I can get more from an online savings account that from T-bills, but I think I’ll check out I-bonds.
in the author’s bio it states that he is extremely proud of their two adult sons. Can the author elaborate? I’m proud of my kid, but not extremely so. Might the author have a specific reason for his strong feelings?
To get the conversation rolling, perhaps you should start by telling everybody why you aren’t extremely proud of your kid.
It’s always fair to ask for evidence. Why do you attack someone for doing that?
Why stop there? Why not ask what he finds enjoyable about walking his dog, gardening, or traveling? One can certainly not make a claim about their dog walking enjoyment and not elaborate!
Oh boy, @Scrooge_McDuck88:disqus, the dog lovers are going to be all over you. Next thing you know, somebody will mention cats and this whole thread will spin out of control.
I interpret it as a superfluous adjective. With online writing the way it is these days, nothing that simply “be” without adjectives. So often it feels like they serve to trigger emotions which makes our eyeballs sticky which sells ads. As you can see, it works!
I have a better solution to the problem of preserving capital than buying I bonds instead of regular bonds. Buy stocks instead. Fears of volatility are exaggerated.
I’m an I-bonds fan, part of my ‘retire earlier’ savings bucket. Cash-like with some inflation hedge and tax deferral was what I needed.
Savings bonds are good gifts to young kids or graduating seniors. No, they won’t thank , you with enthusiasm but they will think of you (hopefully) when they cash them out (likely during an emerency, a bout of unemployment or when making a big purchase. I did this for myself for years and basically forget about it but knew that it was on my balance sheet if I really needed it (which I did when I got laid off in 2008.)
Thanks for sharing.
While I would certainly bend down and pick up a $100 bill, or even a dime, I’m not going to open an account at Treasury Direct even though it would be a way to make an extra $118. After handling my father-in-laws financial affairs during the last several years of his life, I have come to desire simplicity. He had a significant number of accounts, over 25, with different financial providers. Many of these would not accept his POA. Treasury Direct is like that. You have too obtain their form and have it executed. This defeats the idea of a Durable POA in the sense that it has to be done before the principal is disabled. Anyway, I am getting up there in age and I don’t want to leave that kind of a mess for the person who may have to help me. So, I keep the number of accounts I have to a reasonably small number. I am surely leaving some $$ on the table, but I am relaxed about that now. In my younger days I was quite alert to every opportunity…..