Experts answer three tricky questions about Series I bonds

Demand for Series I bonds, an inflation-linked and near-risk-free asset, has skyrocketed as investors seek refuge from rising prices and stock market volatility.

While annual inflation rose 8.6% in May — the highest rate in more than four decades, according to the US Department of Labor — I-bonds are currently paying an annualized rate of 9.62% through October.

That’s particularly attractive after a tough six months for the S&P 500, which has fallen more than 20% since January and limited its worst six-month start to a year since 1970.

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Since the I-Bond’s APR rose to 7.12% in November, 1.85 million new savings bond accounts had been opened as of June 24, according to Treasury officials.

“I-Bonds are a wonderful tool for both cash reserves and investment portfolios,” said certified financial planner Byrke Sestok, co-owner of Rightirement Wealth Partners in Harrison, New York.

Backed by the US government, I-bonds will not go down in value. And if you don’t want to touch the money for 12 months, the current rate dwarfs other cash reserve options, he said.

Still, there are nuances to consider before stacking money into these assets. Here are answers to some of the trickier I-Bond questions.

1. How does the I-Bond interest rate work?

I-Bond yields have two parts: a fixed rate and a floating rate that changes every six months based on the consumer price index. The US Treasury announces new interest rates on the first business day of May and November each year.

With rising inflation over the past year, floating rates have jumped, rising to 7.12% in November and 9.62% in May. However, the initial six-month installment window depends on your purchase date.

For example, if you bought I-Bonds on July 1, you will receive the annual rate of 9.62% through December 31, 2022. After that, you’ll start earning the annual rate announced in November.

2. How do I pay taxes on my bond interest?

While I Bond interest avoids state and local taxes, you’re still on the hook for federal taxes.

There are two ways to cover the bill: report interest on your tax return each year, or defer it until you’ve repaid the I-Bond.

While most people procrastinate, the choice depends on several factors, explained Tommy Lucas, a CFP and registered agent at Moisand Fitzgerald Tamayo in Orlando, Fla.

All of these decisions come back to the ultimate purpose of that investment.

tom lucas

Financial Advisor to Moisand Fitzgerald Tamayo

For example, if you choose to pay taxes on your I-Bond interest each year before you receive the proceeds, you’ll need another source of income to cover those taxes.

But if you earmarked those funds for education expenses, the interest is tax-free, so paying levies annually doesn’t make sense, he said.

“All of these decisions reflect the ultimate purpose of this investment,” added Lucas.

3. What happens to my IBonds if I die?

When you create a TreasuryDirect account to buy I-Bonds, it’s important to add what’s called a beneficiary designation, which indicates who will inherit the assets if you die.

Without that designation, it becomes more difficult for loved ones to collect the I Bonds, and depending on the amount of the I Bond, it may take time and expense to go through probate court, Sestok explained.

“Personally, I make sure my clients get it right from the start,” he said, explaining how adding beneficiaries upfront can avoid headaches later.

However, if you are setting up an account with no beneficiaries, you can add one online by following the steps outlined here at TreasuryDirect. You can call support with questions, but according to the website, there’s a “higher call volume than usual” at the moment.

With a named beneficiary, I-Bond heirs can continue to hold the asset, redeem it, or have it reissued on their behalf, according to Treasury Direct.

Interest accrued up to the date of death can be added to the original owner’s final tax return or the heir’s escrow. In either case, the beneficiary can choose whether or not to defer interest, Lucas said.