Is there a downside to I bonds?
Key Points. Pros: I bonds come with a high interest rate during inflationary periods, they're low-risk, and they help protect against inflation. Cons: Rates are variable, there's a lockup period and early withdrawal penalty, and there's a limit to how much you can invest.
The cons of investing in I-bonds
There's actually a limit on how much you can invest in I-bonds per year. The annual maximum in purchases is $10,000 worth of electronic I-bonds, although in some cases, you may be able to purchase an additional $5,000 worth of paper I-bonds using your tax refund.
You can count on a Series I bond to hold its value; that is, the bond's redemption value will not decline.
Securities purchased through TreasuryDirect cannot be sold in the secondary market before they mature. This lack of liquidity could be a disadvantage for investors who may need to access their investment capital before the securities' maturity.
I bonds mature after 30 years, meaning you can continually earn interest on them for 30 years unless you cash them out first. While you can redeem them as early as one year after your initial purchase, cashing in early, specifically within five years, means you forfeit the last three months of interest earned.
That said, some bonds do carry the risk of default, where it is indeed possible for an investor to lose their money. Such bonds are rated below investment grade, and are referred to as high-yield bonds, non-investment-grade bonds, speculative-grade bonds, or junk bonds.
Bottom line. If inflation and investment safety are your chief concerns — TIPS and I-bonds deliver both. TIPS offer greater liquidity and the higher yearly limit allows you to stash far more cash in TIPS than I-bonds. If you're saving for education, I-bonds may be the way to go.
One increasingly popular pick are I Bonds, savings bonds issued by the U.S. government. These bonds are virtually risk free and have a robust fixed interest rate. There is generally a $10,000 limit per year for purchasing I Bonds, but there are a few ways to get around this limit.
| Face Value | Purchase Amount | 20-Year Value (Purchased May 2000) |
|---|---|---|
| $50 Bond | $100 | $109.52 |
| $100 Bond | $200 | $219.04 |
| $500 Bond | $400 | $547.60 |
| $1,000 Bond | $800 | $1,095.20 |
Even if the stock market crashes, you aren't likely to see your bond investments take large hits. However, businesses that have been hard hit by the crash may have a difficult time repaying their bonds.
What are three disadvantages of bonds?
- Values Drop When Interest Rates Rise. You can buy bonds when they're first issued or purchase existing bonds from bondholders on the secondary market. ...
- Yields Might Not Keep Up With Inflation. ...
- Some Bonds Can Be Called Early.
Bottom line. I bonds, with their inflation-adjusted return, safeguard the investor's purchasing power during periods of high inflation. On the other hand, EE Bonds offer predictable returns with a fixed-interest rate and a guaranteed doubling of value if held for 20 years.
But while they are lauded for their security and reliability, potential drawbacks such as interest rate risk, low returns and inflation risk must be carefully considered. If you're interested in investing in Treasury bonds or have other questions about your portfolio, consider speaking with a financial advisor.
I bonds can be a safe immediate-term savings vehicle, especially in inflationary times. I bonds offer benefits such as the security of being backed by the full faith and credit of the U.S. government, state and local tax-exemptions and federal tax exemptions when used to fund educational expenses.
You can cash in (redeem) your I bond after 12 months. However, if you cash in the bond in less than 5 years, you lose the last 3 months of interest. For example, if you cash in the bond after 18 months, you get the first 15 months of interest. See Cash in (redeem) an EE or I savings bond.
Interest on I bonds is exempt from state and local taxes but taxed at the federal level at ordinary income-tax rates.
Bonds offer a fixed, predictable income from interest. They are also more liquid and may see greater returns than CDs. However, if you're looking for a highly secure and easy way to earn interest, CDs may be more suitable to your goals.
Interest rate changes are the primary culprit when bond exchange-traded funds (ETFs) lose value. As interest rates rise, the prices of existing bonds fall, which impacts the value of the ETFs holding these assets.
Vanguard's active fixed income team believes emerging markets (EM) bonds could outperform much of the rest of the fixed income market in 2024 because of the likelihood of declining global interest rates, the current yield premium over U.S. investment-grade bonds, and a longer duration profile than U.S. high yield.
EE Bond and I Bond Differences
The interest rate on EE bonds is fixed for at least the first 20 years, while I bonds offer rates that are adjusted twice a year to protect from inflation. EE bonds offer a guaranteed return that doubles your investment if held for 20 years. There is no guaranteed return with I bonds.
Are I bonds better than a savings account?
Higher rate of return: Currently, the combined rate of I bonds is set at 5.27%, which is significantly higher than the average return you'd find with a traditional savings account, money market account , or certificate of deposit (CD).
Reasons a high-yield savings account could be better
The biggest arguments in favor of savings accounts mainly have to do with the drawbacks of buying I bonds. For one thing, I bonds cannot be redeemed at all for the first year, and there's a penalty for redeeming them within five years.
The composite rate for I bonds issued from November 2023 through April 2024 is 5.27%.
You can skip paying taxes on interest earned with Series EE and Series I savings bonds if you're using the money to pay for qualified higher education costs. That includes expenses you pay for yourself, your spouse or a qualified dependent. Only certain qualified higher education costs are covered, including: Tuition.
Yes, since bond purchase limits are based on a person's Social Security number, a married couple could buy up to $30,000 in I bonds annually. Each spouse could buy $10,000 in electronic I bonds and $5,000 in paper I bonds, assuming their federal tax refund is large enough.
