Should you buy I-Bonds now? | Smart Change: Personal Finance

(Chuck Salita)

2022 started out as a very difficult year for most Americans. The stock market is falling while inflation is rising and wages are showing signs of stagnation. This combination strained the purchasing power of people across the country.

in that environment, I-Bonds, promising inflation-matching returnsIt looks like an island promising stability and value protection in a very stormy situation. In fact, while these key numbers look promising, the details behind them make I-Bonds a less ideal investment than it appears on the surface. This does not mean that it is a bad use of your money, just one in which the actual reality may not live up to the main promise in most scenarios.

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Some major limitations of I-Bonds

First, everyone is limited to $10,000 in direct I-Bonds purchases annually, plus an additional $5,000 if purchased via a tax refund. This limitation means that although I-Bonds may play a role in your financial plan, you should not expect them to be able to use them to protect your life-changing amounts of money from inflation.

Additionally, once you purchase an I-Bond, your funds are tied up for at least a year, unless you live in a declared disaster zone. This makes it important to have an alternative source of emergency funds for at least the first year after purchasing an I-Bond. Otherwise, if you have an unexpected need to tap your money early, you may find that the interest you pay for borrowing while waiting for that timer to appear exceeds what you earn from your I-Bond.

As if that weren’t enough, if you cash in your I-Bonds before holding them for five years, you will lose interest over the last three months. In other words, in order to truly get the promised inflation-compliant returns from I-Bonds, you must hold your I-Bonds for at least five years. Any shorter hold period means you will get less than this address number. It is important to realize, since then The five-year time horizon is when investing in stocks makes sense as a way to try get over inflation.

Then there are taxes, of course. While on state tax exemption, the money you earn on I-Bonds is taxed as ordinary interest income at the federal level. As a result, your principal returns may keep pace with inflation, but your purchasing power will likely not be on that money.

Put it all together, and I-Bonds will become tools that have some use, but aren’t necessarily a great alternative to all the other uses of cash or bonds.

So, what is the meaning of I-Bonds?

I-Bonds can be a useful tool as you transfer money from stocks to cash or bonds a few years before your children start their college education. This is because you can often exempt interest on I-Bonds from your income for tax purposes if you use the money to pay for qualified education expenses.

In addition, I-Bonds can be useful in a file bond ladder, especially if you have a time horizon of at least five years. This is because you can defer the tax on the interest received on an I-Bond until you sell it, which results in a lower annual internal draw on your returns compared to a standard bond. Be aware, however, that the benefit of I-Bonds is adjusted every six months, so if inflation After it’s under control again, the current rate of return you get on your I-Bonds will shrink.

Finally, if you’ve been saving for a goal that’s more than a year old and you could have saved in a checking or savings account, I-Bonds can offer you a better risk-adjusted return on your money. Remember that I-Bonds are securities offered by the US Treasury. If the US government stops paying its bondholders, we will likely have bigger problems than just lost money.

If you are going to use I-Bonds, start now

Ultimately, I-Bonds can serve a reasonable purpose as part of your overall financial plan. The one-year minimum retention period means that the earlier you buy them, the sooner the watch will start to tickle. So if you’re planning on using I-Bonds, now is the time to put your plan in place to make it part of your overall portfolio.

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Chuck Salita He has no position in any of the mentioned shares. The Motley Fool does not have a position in any of the stocks mentioned. Motley Fool has a profile Disclosure Policy.