New I-Bond Fixed Rate Coming May 1

[MediumTex]

Went to my local Chase bank this morning and asked about buying I-bonds. The lady asked me, "I or EE"? I said "I" and she got me the form. Filled it out and when processing asked her how often people buy them. She said regularly, mostly older people. She also said that at most other branches they don't do this too often, this branch is an exception...

You should have told her that her level of knowledge was also an exception.

[Jan Van]

You should have told her that her level of knowledge was also an exception.

Houston, Texas. What else would you expect?

Bwahahaaaaaaa :-)

[moda0306]

http://www.bls.gov/news.release/pdf/cpi.pdf

Go to page 4 and you'll see that May CPI-U is 225.964... a .47% increase over April, and and 1.1% over March.

So we're basically 1/3 of the way through the next period of I-bond inflation calculation (after a lovely 4.6% rate of return for the first 6 months), with a 1.1% increase so far.  If CPI holds even through the next 4 months (June-September), that will result in an effective 2.2% return for the rest of the year.

So (4.6%+2.2%)/2=3.4%... tax-deferred.

I guess I could see CPI treading back a little bit with the commodity dive, so that 3.4% isn't guaranteed, but I don't think it'll be too far off.

[AgAuMoney]

http://www.bls.gov/news.release/pdf/cpi.pdf

You might be interested in:  http://research.stlouisfed.org/fred2/data/CPIAUCNS.txt

It's a lot easier to process than a PDF. 

Now I just wish they'd get the fixed rate above 0...  But I don't see much chance of that. 

If I'm not beating inflation, what's the point of tying up my money for 11-12 months and even after that having to give back a large part of the inflation compensation in the form of penalties and taxes?  It's not at all appealing.  To appeal to me I have to beat inflation by at least my marginal tax rate and have full liquidity or I might as well "keep my powder dry" looking for that opportunity.  The only way I accept reduced liquidity is for significantly beating inflation.

[moda0306]

During commodity inflation (what we have now), it can be difficult to "beat inflation" with traditional financial assets.  Especially cash or short-term instruments.  I hate short-term rates as much as the next guy, but I'm willing to set aside some "deep cash" into I-bonds every year, because I know that after the inital 12-month period, that's at much "dry powder" as anything else.

At that point, I'll just hold those i-bonds unless 1) the fixed rate rises, or going rates in savings accounts or MM funds or at least 1-3 year treasuries starts beating the CPI increases.

Cash's role as dry powder, and not a high-returning asset, shouldn't be ignored, though.  You only want i-bonds within your deep cash.

[AgAuMoney]

I'm willing to set aside some "deep cash" into I-bonds every year, because I know that after the inital 12-month period, that's at much "dry powder" as anything else.

Is it?  After the initial 12 month period and for the next 48 months, you will pay 25% (3 months) of the previous 12 months inflation as a penalty for "early withdrawal."

You will also pay federal taxes (unless you can fit yourself into an exclusion somehow) which for me would be another 25% of the inflation earned to date.

So if I cashed out an iBond at the 12month period, I would lose 50% of the inflation premium for the past 12 months.  In other words, with a 0% base rate I'd have lost 1/2 as much as if I socked the cash away in my underwear drawer and I'd have the aggravation of dealing with the paperwork (income taxes at least) as compensation for the other 1/2.

And don't forget the limits on how much you can put into iBonds, so you might also have some money elsewhere.  You can probably simplify your life by putting all your cash into the same place and not even have to deal with the 1 year lockdown.

[moda0306]

AgAu,

Yes, it is... unless I actually want to earn 0% return from cash in my drawer, it's just as much dry powder as MM accounts and pays (at least today) significantly higher interest.

You seem to look at ALL of your cash as dry powder that can't be tainted by any lack of liquidity whatsoever.  I see some of my cash that way, but am willing to hedge my bets with some of it into something that could continue to beat prevailing rates, tax deferred (state tax-free), and 100% liquid (unless banks close their doors) after one year.

How confident are you that cash in a treasury MM account will soon turn to beating CPI?  If you're not (as I'm not), then taking some cash and putting it into an I-bond will be worth the liquidity risk to some people.

If I thought rates were going to explode (or at least quickly beat CPI again) or that I was significantly sacrificing my liquidity over the next year, then I'd see your point, but I think most of us agree here that if you've got a decent amount for living expenses, i-bonds are a very lucrative substitute for your deep cash given the options they give you to get out and the tax-efficiency they offer.

The paperwork and penalty might not be a big deal if CPI beats MM rates for the next 5 years, which I wouldn't be one bit surprised if it did.... plus remember, any negative CPI pullback doesn't give you negative interest, but simply 0% inflanion interest for that 6-month period.

[walkerjks]

I'm willing to set aside some "deep cash" into I-bonds every year, because I know that after the inital 12-month period, that's at much "dry powder" as anything else.

Is it?  After the initial 12 month period and for the next 48 months, you will pay 25% (3 months) of the previous 12 months inflation as a penalty for "early withdrawal."

You will also pay federal taxes (unless you can fit yourself into an exclusion somehow) which for me would be another 25% of the inflation earned to date.

So if I cashed out an iBond at the 12month period, I would lose 50% of the inflation premium for the past 12 months.  In other words, with a 0% base rate I'd have lost 1/2 as much as if I socked the cash away in my underwear drawer and I'd have the aggravation of dealing with the paperwork (income taxes at least) as compensation for the other 1/2.

And don't forget the limits on how much you can put into iBonds, so you might also have some money elsewhere.  You can probably simplify your life by putting all your cash into the same place and not even have to deal with the 1 year lockdown.

Your math is off. 

First, you don't lose 25% of the last 1 year in penalty - you lose the last 3 months.  Now, since the inflation adjustments are set for 6 month periods, depending on when you sell, you might be effectively losing half (3 months) out of the last 6 months.  Or all of 1 month and a third of the 6 month period before that.  Or all of the last 2 months plus one sixth of the 6 month period before that.  Or, well, hopefully you get the idea.  You lose the last 3 monthly adjustments, which are never based on anything that happened 10 months ago. 

The penalty could, in fact, be zero.  For example, if you bought anytime in May, you would earn the 2.3% over the first 6 months,  If the inflation was 0% for the next 6 month period, you would earn 0% in the next 6 months (due to the 0% base rate + 0% inflation).  You could redeem anytime in April with no effective penalty (you would still have a 2.3% gain, pre-tax).

Second, since you never received the penalty as interest, your taxes are based on post-penalty amount.  Suppose, for simplicity, that the inflation adjustment was truly constant.  In that case, you would have gain * 0.75 * 0.75, or 43.75% post-tax haircut, not 50%. 

[Lone Wolf]

If I'm not beating inflation, what's the point of tying up my money for 11-12 months and even after that having to give back a large part of the inflation compensation in the form of penalties and taxes?  It's not at all appealing.  To appeal to me I have to beat inflation by at least my marginal tax rate and have full liquidity or I might as well "keep my powder dry" looking for that opportunity.  The only way I accept reduced liquidity is for significantly beating inflation.

In a world of negative real interest rates, the realities of cash are always likely to be ugly.  In this case, that reality is that the dollar is being steadily debased and short-term Treasury rates are being suppressed so that you are not compensated for that debasement.  I-bonds help rescue you from this poor treatment.

One-year Treasuries are paying 0.17% interest (which is, of course, subject to immediate taxation.)  Since nobody believes that inflation is 0.17%, it's fairly obvious that cash is constantly losing significant value to inflation.

I-bonds are guaranteed to "tread water" throughout this period of negative real interest rates.  If you are forced to cash them in, yes, you'd owe taxes and (potentially) a small interest penalty.  The tax penalty occurs with nominal Treasuries as well, so that's not a negative for I-bonds.  The interest penalty is only 3 months and only occurs in a pre-5 year cash-in.  When you consider the difference between rates like 0.17% and 4.6% (tax deferred!), this just isn't very significant.

Once you have built an arsenal of these things over the years, their liquidity is just fine.  After one year, you can consider them to be completely liquid since the interest penalty still puts you way ahead of a T-bill.

[AgAuMoney]

I'm willing to set aside some "deep cash" into I-bonds every year, because I know that after the inital 12-month period, that's at much "dry powder" as anything else.

Is it?  After the initial 12 month period and for the next 48 months, you will pay 25% (3 months) of the previous 12 months inflation as a penalty for "early withdrawal."

You will also pay federal taxes (unless you can fit yourself into an exclusion somehow) which for me would be another 25% of the inflation earned to date.

Your math is off. 


First, you don't lose 25% of the last 1 year in penalty - you lose the last 3 months.

...
gain * 0.75 * 0.75, or 43.75% post-tax haircut, not 50%. 

You're right.  43.75% not 50%.

But 3 months is really, really close to 25% of a year. 

BTW, I purchased my first iBond when the treasury was selling them via credit card with no added fees.  I miss those days...  Like an idiot I didn't hold them.

[Storm]

BTW, I purchased my first iBond when the treasury was selling them via credit card with no added fees.  I miss those days...  Like an idiot I didn't hold them.

Yeah, wow, I would use the Fidelity AmEx that gives me 2% cash back on all purchases and be up 2% on day 1...  Ah, the good old days.  Merchant fees must have eaten the Treasury alive.

[AgAuMoney]

If I'm not beating inflation, what's the point of tying up my money for 11-12 months and even after that having to give back a large part of the inflation compensation in the form of penalties and taxes?  It's not at all appealing.  To appeal to me I have to beat inflation by at least my marginal tax rate and have full liquidity or I might as well "keep my powder dry" looking for that opportunity.  The only way I accept reduced liquidity is for significantly beating inflation.

In a world of negative real interest rates, the realities of cash are always likely to be ugly.  In this case, that reality is that the dollar is being steadily debased and short-term Treasury rates are being suppressed so that you are not compensated for that debasement.  I-bonds help rescue you from this poor treatment.

Only "help rescue" if you 1) accept the 11-12 month non-liquid aspect and 2) believe that the CPI is an accurate measure of inflation.  If you do not accept BOTH of those points, I Bonds are no rescue.

I-bonds are guaranteed to "tread water" throughout this period of negative real interest rates. 

Guaranteed?  Only if you believe the current CPI (as opposed to the previous CPI or the CPI before that...) and it is not changed out from under you again.

When you consider the difference between rates like 0.17% and 4.6% (tax deferred!), this just isn't very significant.

As someone else pointed out, only for 6 months (180 days).  After that you don't know.  Might be 0, might be more.  But your money is still locked up -- totally inaccessible -- for another 150-180 days.

Once you have built an arsenal of these things over the years, their liquidity is just fine.  After one year, you can consider them to be completely liquid

An arsenal?  We are talking about what to do with money now.  And one year, yeah, but what happens between now and 1 year from now?

Instead of iBonds I put that cash into Roth IRAs for me and the wife.  It isn't earning 4.6%, but I have a choice of just about any investment EXCEPT iBonds and any income will be tax free (guaranteed at least as strong as the iBond=inflation guarantee), and it is 100% liquid from day 1, and it has a lot of legal protection against judgments, liens, bankruptcy, college financial aid calculations, etc.  It is at risk of the gov't changing the IRA rules tho...  Six months from now the treasury has another opportunity to make iBonds worth my while.  Until then, ''I might as well keep my powder dry'' because I'm not going to LOCK IT UP for 11-12 months if I can't significantly beat inflation.

And hey, the treasury even gave me until Oct 31 to change my mind!  And by then I'll know what the next FULL YEAR of iBond inflation rate will be.  There is just no reason to do iBonds now.

[Lone Wolf]

Only "help rescue" if you 1) accept the 11-12 month non-liquid aspect and 2) believe that the CPI is an accurate measure of inflation.  If you do not accept BOTH of those points, I Bonds are no rescue.

I certainly agree as far as the limits of CPI.

What alternative cash instrument does better than this, though?  What are we judging I-bonds against?  If we're looking at this in the context of the Permanent Portfolio, I don't know what else does as well for the "cash" portion.

As someone else pointed out, only for 6 months (180 days).  After that you don't know.  Might be 0, might be more.  But your money is still locked up -- totally inaccessible -- for another 150-180 days.

I'm not sure I know what you mean by the money becoming inaccessible.  Once you have held the savings bonds for a year you can redeem whenever you wish.  You are illiquid for that first year and then completely liquid (with interest penalty) afterward.  (A very legit concern, but one that lasts only a year.)

Any "cash" instrument (in the PP sense) that I've judged I-bonds against has so far come up short.  What would you take over I-bonds for money in a taxable account (again, speaking of "cash")?

[moda0306]

AgAu,

I can see the logic of waiting.  I am currently waiting to see a couple more months of CPI (and meanwhile observing ST interest rates), and then will probably strike on some i-bonds... if I miss out on a fixed rate increase, I'll probably buy some more at that time.

[AgAuMoney]

I can see the logic of waiting.  I am currently waiting to see a couple more months of CPI (and meanwhile observing ST interest rates), and then will probably strike on some i-bonds...

Every i-bond I've purchased has been at either the end of April or the end of October. 

[moda0306]

June 2011 CPI-U at 225.722... down just a tick from May 2011.

http://www.bloomberg.com/news/2011-07-1 ... text-.html

So we're half-way through the next calculation period for i-bonds, and with March CPI-U at 223.467 (ftp://ftp.bls.gov/pub/special.requests/cpi/cpiai.txt), we have a April-to-date CPI adjustment for our i-bonds of 1.01%.

2.3% + 1.01% = 3.31% annual over 12 months if nothing changes with CPI.

Since the 4.6% rate announcement in May, short/mid rates for treasuries have dropped even more (1.01% -> .66% for 3-year bonds and 3.32% -> 2.98% for 10-year bonds).

So there you are... even as inflation continues (in general, over the last 3 months) to tick upwards, we have a decrease in short-term interest rates to compete with i-bonds, who are guaranteed to return 2.3% over 1 year, but are looking like they'll return more like 3%-3.5% by year end unless commodities do something really interesting.

For somebody with a bunch of SHY in a taxable account and in the 0% capital gain bracket (though the gain will probably be minimal anyway), you might want to dive into some i-bonds if you've got plenty of cash cushion for living expenses.

Correction

A basket of commodities has gone UP since July 1st, not down... +6.3% in fact.  So I think we can assume a little more inflation-adjusted interest than I had previously guessed... all while 1-3 year treasury rates are at crazy lows.

All hail i-bonds.

[moda0306]

July CPI-U Report

CPI-U is up to 225.722 by the end of July, back close to its May high, for an increase of about .1%.

ftp://ftp.bls.gov/pub/special.requests/cpi/cpiai.txt

So we have 4/6 months of the 2nd term of the CPI calculation and we're up 1.1%.

PCRAX, Pimco's commodity basket fund, is down' 1.6% so far in August, and it looks like the economy took a bit of a hit, so I wouldn't be surprised to see it back off to .8%-1% by the end of the month.

So there you are folks, it looks like i-bonds purchased between now and 11/1 will probably return you about 3%-3.3%.

Further, if you've maxed those out, EE bonds are looking good too.

Question/Observation:

Anyone know how the taxation of these works if you purchase them via treasury direct?  Do you purchase different "denominations" that you can "redeem" at which point you pay the tax on the accrued interest?  I'm curious because being able to "pull income" out of of these things should be extremely tax-efficient, since, say if your EE bonds yield you 1.1% for 30 years, you could literally simply redeem 1.1% of your total ee-bond holdings and the value will stay the same, nevermind the phantom interest, and you've BARELY recognized any taxable income, for instance:

You buy $20k of ee bonds, which will earn $220 per year.  You also buy $20k of I-bonds, which, let's assume for now, will earn you the $280 (less than they would current year... but this is just for ease of planning), for a nice even $500.  This $500 is a return of 1.25%.

You'll most likely keep these savings bonds if rates don't improve as part of your cash portion, but if you're retired, tax-efficiency of the cash-flows you pull from your investments is important, and pulling from your IRA is going to realize you a $ for $ taxable income increase... taking dividends will be the same, though at a preferred tax rate... selling stocks/gold, much less so (in fact, what I'm showing here is much how the mechanics of a "capital gain" is taxed vs interest/dividend income.

If you have small-denomination i/ee bonds in paper form, or however you recognize them in treasury direct, if you've held them for a year, your tax-realization on the redemption of the amount of your income ($500 for one-year's interest of a maxed-out purchase of both savings bonds), is extremely small, since they act as if you're pulling out principal, not interest on all your bonds.

In my example, you'd "redeem" $500 from the ee & i bonds, and the tax on that redemption at MAX rates would be minescule. 1.25% x 35% * $500 = $2 of tax!  35% of $500 of straight income (no basis) is $175... and toss another $25 in there for 5% state tax if applicable... which is what an IRA distribution or interest income will trigger.

Further, your FMV of savings bonds held is no less than last year, and you'll be able to do this again... each year will result in a slightly less attractive tax situation, but it'll stay VASTLY better than income of other kinds for some time.  You also had an opportunity to add another $40,000 to this plan.

This is what's nice about savings bonds not just for savers, but for income seekers... they can act as not just a tax-deferral tool, but a "basis shifting tool," where when you pull money out it's not all taxed like interest, but you pull basis out as well while the rest still grows tax-deferred.

An investor that couldn't get all his money into tax-deferred accounts would be wise to play this game if they like to watch rates and track their savings bonds.  This, combined with the other tax-efficient assets of the PP (and getting as much of the LTT's they can into whatever IRA space they have), can provide EXTREMELY tax-efficient income inretirement.

[moda0306]

EE Bond Arbitrage looking mightily spectacular right about now, especially for stock-bullish bond haters:

Recipe:

- Sell $X Thousand of TLT or long-term treasuries in Tax-deferred account, and buy stocks or keep in cash... make sure this is less than 10% of your total LTT holdings to avoid having to dip into them.

- Use cash of same amount from taxable accounts to purchase ee bonds, which offer 1.1% annual return, but will double if held for 20 years, which is an implied return of 3.53%.

- Wait until rates jump back up to where 20-30 year bonds, and maybe even short-term bonds, are yielding enough to justify selling your ee's (at no loss) and getting back into the LTT's... heck, maybe don't even sell them and just continue to hold them as "cash" if rates are still unattractive compared to the 1.1%.

- Uh oh... what if (gasp) rates DON'T increase and we end up in a Japanese kamakaze deflationary tailspin?  Well, you just hold them, and hopefully don't have to redeem them, until 20-years from now... make a chart that illustrates your implied rate for holding it past any given time (aka, from year 5 through year 20, the implied rate of the doubling is 4.35% over a 15 year "bond," or from year 10 it will be 6.01% (yes, the value of the bond includes the 1.1% accrued interest)).

Yes, in all, you may lose out on some "good volatility" as rates drop further, but if you think of this 20-year bond as having an implied value at its current rate and lack of volatility less an "illiquidity discount" for the fact you don't get that higher 3.53% rate until holding it to year 20, and if you make sure it's only a small part of your LTT piece, you'll have a pretty good deal on your hands and be just fine, but be better off if/when rates rise again.

[moda0306]

ftp://ftp.bls.gov/pub/special.requests/cpi/cpiai.txt

CPI-U ticks up again to 226.545... .28% over last month, and 1.38% over March's number used for the last round of i-bond rates.

Once again, if you have enough emergency fund cash and/or are short on tax-deferred space, it looks like these things will return about 3.68% (2.3% + 1.38%) +/- whatever CPI-U does in September...

Yesterday the 30-year treasry yielded 3.32%, to give some perspective.

Further, ee-bonds are still looking pretty nice with a 1.1% guaranteed return for 30 years, and a doubling at 20 years, which is the equivalent of a 3.53% return compounded during that period.

[moda0306]

PS,

Buy these at the end of the month... they accrue a whole month's worth of interest immediately.

[walkerjks]

I like to assume that I will cash it in at 1-year, so remove half of the 1.38% and you still get 2.99%, assuming CPI remains unchanged in September.  That's a fantastic 1-year return, plus you have the option to hold longer if other fixed income yields remain low or inflation perks up. 

[moda0306]

New CPI-U... last one for existing I-bonds... get them before Halloween!

http://www.bls.gov/news.release/cpi.t01.htm

CPI-U increased for September by a smidge to bring the total to 1.53% from March.  March had a 6-month increase of 2.3% since last September.

The combined 3.83% return over the next year if you buy this month is based on almost preceisely the inflation over the LAST 12 months, and offer much higher rates than most treasuries of similar terms, tax-deferred until redemption, and state tax-exempt... guaranteed to match CPI-U going forward, with the exception that it can never go negative in value from the preceding 6-month period.

This is a great deal for some of your "deep cash."

[dragoncar]

Good news everybody!  TD is getting rid of the access card (I just kept the a photo of it on my phone but I find the mouse keyboard a huge pain)

I also just ordered my paper ibonds at citibank.  A little unnerving since the receipt they gave me has very little info.  I'm supposed to give them 5k now and hope I get the right bonds in the mail in a few weeks?  I get it'll be fine, but I don't want to deal with lost mail issues, etc.

[melveyr]

Quick question to those who use Treasury direct:

When you transfer money to TD, is there a fee charged from your bank? I am a Bank of America customer if anyone else is as well..

Thanks!

[dragoncar]

Quick question to those who use Treasury direct:

When you transfer money to TD, is there a fee charged from your bank? I am a Bank of America customer if anyone else is as well..

Thanks!

Under normal circumstances, no -- they use ACH which is the same as your typical credit card bill pay.  BofA has been going crazy with the fees recently, though, so maybe you should just ask them to be sure.