I Bonds Have Been All the Rage. Are They Still Worth Buying Now?

If you're looking for a way to protect your funds from inflation, I bonds may be precisely what you're seeking.

As the stock market struggles to regain its footing and inflation eats into savings, I bonds have become an attractive alternative to riskier investments. Much has been written about I bonds since the pandemic locked down the country, but what about today? Are I bonds still worth the investment?

What is an I bond?

An I bond is a type of U.S. savings bond (not to be confused with EE savings bonds). I bonds are designed to protect the value of your cash from inflation. They are a high-yield, lower-risk investment vehicle. With an I bond, you earn both a fixed rate of interest and a rate that changes with inflation. Twice a year, the inflation rate is set for the next six months.

Through Oct. 31, 2022, the interest rate on I bonds is 9.62%, with that amount being guaranteed until November, when the Treasury has announced that the composite rate will move to 6.48%. That rate is guaranteed for six months, when it will again be calculated based on inflation.

The nitty gritty

Investors can purchase up to $10,000 worth of I bonds each year through the government's TreasuryDirect website. They can then purchase another $5,000 worth with their tax refunds. This brings the total a person can invest in I bonds to $15,000.

How interest is calculated

The Treasury calculates interest by using a composite rate. Composite rates are based on two things: Fixed interest and a rate adjusted for inflation. Although interest is earned monthly, you can't access it until the bond is cashed out.

How interest is paid out

An investor must hold an I bond for a minimum of five years to receive all interest due and cannot cash out before 12 months. Any I bonds cashed out after 12 months but before the five-year mark loses three months' worth of interest.

Maturity

I bonds carry a 20-year maturity period, followed by a 10-year extended period. In total, that's a maturity of 30 years. After five years, though, you can cash an I bond without penalty.

Taxes

I bonds are exempt from state and local income taxes, making them even more attractive as a low-risk investment for those who live in high-tax areas of the country. In addition, I bond owners can defer federal income tax on the accrued interest for up to 30 years.

One thing to keep in mind is that you may end up passing this tax burden on to someone else. Let's say you purchase I bonds each year for the next 20 years with plans to allow each bond to mature. However, you die and leave the I bonds to a beneficiary. It's the beneficiary who will be responsible for paying taxes once the I bonds are cashed.

A special perk

A cashed I bond may be 100% tax-free if you use it to pay college tuition and fees at an eligible college or university.

Nothing in life is guaranteed, but…

In answer to the question of whether I bonds are still worth buying, the answer is yes. After all, any investment vehicle offered by the U.S. Treasury has almost no risk of default. If you're looking for an investment with little to no risk and a high rate of return, there are few options better than I bonds.

If you determine that an I bond is right for you, you can make a purchase directly from the U.S. Department of Treasury rather than visit a brokerage.