I Bonds: What Are They and How Do They Work?

Oct. 20, 2022

With inflation at a 40-year high and the stock market going into hibernation, in part due to the Feds aggressive interest rate hikes, there are few places for an investor, or their cash, to hide. If you have cash sitting on the sidelines (i.e., in your back account), its value is slowly eroding due to inflation. While stocks have been the all-time favorite in the fight against long-term inflation, I bond’s may be the current champion as a potential inflation-proof investment option for a small portion of your portfolio. Let’s summarize.

What is an I bond?

A Series I bond is a non-marketable security (meaning you cannot resell it), offered by the Treasury Department and backed by the U.S. government, that pays you an interest rate based on the current rate of inflation, specifically, the CPI-U. This rate is locked in for six months and recalibrated in May and November.

How does the interest rate work?

I Bonds are unique, in that they incorporate two separate rates, a fixed rate plus an inflation rate. This combination rate, also known as “composite rate” or “earnings rate,” allows for protection from inflation. As inflation increases, the interest rate will increase along with it. If deflation occurs (a negative inflation rate), the combination rate never goes below 0%. This makes I Bonds extremely attractive during inflationary periods but protects you against losses as inflation fluctuates.

You might be asking, what’s the catch? Like a Certificate of Deposit (CD), your purchase will stay tied up and must go untouched for at least one year. Any I bonds redeemed before five years has passed will forfeit the last three months of interest. Any held longer than five years can be redeemed at the current value.

Are there any tax benefits?

Tax benefits are one of the I bond’s most attractive qualities. I Bonds are Federal bonds, and therefore completely exempt from state and local taxation. Federal taxes must still be paid on the interest gained over the life of the Bond. On maturity, usually 30 years from issue, the bond holder is responsible for reporting interest on the federal tax return of the year the interest was received.

How much can I buy and where?

Currently the Treasury Department caps I bond purchases at $15,000 per person, per year. Specifically, individuals can purchase $10,000 in electric I Bonds and $5,000 in paper issued I Bonds; purchased only with your tax refund. In both options you will need to first open a TreasuryDirect account at After creating an account, you then have the option of funding their I Bond directly or setting up a Payroll Savings plan, which provides the option of paying incrementally from each paycheck until reaching the limit.

The Savings Security Act of 2022, a new Bipartisan senate bill introduced in late September 2022, aims to make I Bonds an even more enticing option for investors. The bill, if passed, would increase the annual cap limit of I Bond purchases from the current $15,000 to $30,000, whenever the average six-month annual Consumer Price Index exceeds 3.5%. This increased cap only applies to individuals and families.

Are they a worthwhile investment?

Depending on your investing timeframe and cash needs, this may be the perfect opportunity to boost a portion of your savings. I bond rates are currently extremely attractive, and as a result, have the potential to play a role in most investment portfolios. For instance, taking a portion of an emergency fund, currently held in a low interest savings account, and investing in I bonds can generate higher interest in an inflationary environment while keeping the money in a safe investment and out of the volatile market. As always, it is important to look at something like this through the lens of the overall plan, how they align with particular goals of your various accounts, and weigh the trade-offs.

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