Are I Bonds a Good Option to Stash Short-Term Savings?

Interest rates are rising a bit again, which makes the guaranteed income look more attractive.

Motley Fool Staff
Motley Fool Staff
Apr 7, 2018 at 12:19PM
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March 27 brings us the Motley Fool Answers podcast's monthly mailbag show, which Alison Southwick and Robert Brokamp dedicate to providing their best advice and insights in response to listener questions.

Our podcasting duet learned something last month: Having Ross Anderson, certified financial planner from Motley Fool Wealth Management -- a sister company of The Motley Fool -- along for the ride makes it so much easier.

In this segment, the Fools answer this question from listener Ben: "Should I use government-issued I savings bonds or an online savings account for my cash? What are the pros and cons for both options?"

A full transcript follows the video.

This video was recorded on March 27, 2018.

Alison Southwick: The next question comes from Ben. Should I use government-issued I savings bonds or an online savings account for my cash? What are the pros and cons for both options?

Robert Brokamp: I love that someone is bringing up I bonds. You know that inflation is starting to tick up when people bring up I bonds because you haven't heard about them for years. Alison, have you ever even heard of an I bond?

Southwick: Nope.

Brokamp: Right. An I bond is a clever little thing that you can get from Uncle Sam. It's a type of savings bond, so it's about the safest investment in the world. The interesting thing about the I bond is that it has two components to its savings rate. One is fixed through the life of the bond, and the other one is a variable based on the CPI, the Consumer Price Index.


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These days with an I bond, the fixed rate is only 0.1%, but when you add the inflation thing, you get a rate of 2.58%, which is pretty good, especially compared to the typical savings account, plus it goes up if inflation goes up, so it gives you a little bit of inflation protection.

A couple of other interesting things about I bonds. You don't collect the interest until you redeem the bond. That means that the interest accumulates tax-deferred, but it also means it's not a really good source of current income. Speaking of taxes, they're federally taxable but free of state taxes. And if you use it for qualified higher education expenses, you don't pay any taxes.

They can't be redeemed for one year, and if you redeem it between years one to five, you'll pay a penalty equal to three months of interest. So, it's not something that's really that liquid. It's not a checking account. You can't use it at an ATM to get access to your savings bond and you can't write a check on it. So, for most people it's probably better to have a regular savings account just because it's more liquid, but if you're looking for a really safe investment for the next five or so years that will adjust for inflation, an I bond, I think, is worth considering.

Southwick: Our listeners love to find places to squeeze more money out of their emergency fund. It doesn't sound liquid enough to put in an emergency fund, though.

Brokamp: It's not, generally speaking, because again you have to hold it for at least a year. I mean, after that you lose three months' worth of interest. It's not a big deal. Another good thing is you can get them free through Uncle Sam on a website called TreasuryDirect.gov. But you're right, it's not the thing for the emergency fund.

But fortunately, because interest rates have gone up, it's pretty easy to find a high-yield savings account that's about 1.5% these days.