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Experts answer three tricky questions about Series I bonds

Demand for Series I bonds, an inflation-protected and nearly risk-free asset, has soared as investors seek protection from soaring prices and stock market volatility.

While annual inflation rose 8.6% in May – the highest rate in more than four decades, according to the US Department of Labor – I bonds are currently paying an annual rate of 9.62% until october.

That’s particularly attractive after a tough six months for the S&P 500, which has fallen more than 20% since January, capping its worst six-month to one-year start since 1970.

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Indeed, since the annual I-bond rate jumped to 7.12% in November, 1.85 million new savings bond accounts have been opened through June 24, according to Treasury officials.

“I bonds are a great tool for cash reserves and investment portfolios,” said certified financial planner Byrke Sestok, co-owner of Rightirement Wealth Partners in Harrison, New York.

Backed by the US government, I bonds will not lose value. And if you’re comfortable not touching the cash for 12 months, the current rate “dwarfs” other cash reserve options, he said.

Still, there are nuances to consider before piling cash into these assets. Here are the answers to some of the trickier questions I’ve linked.

1. How does the interest rate on I bonds work?

Yields on I bonds have two parts: a fixed rate and a floating rate, which changes every six months based on the consumer price index. The US Treasury Department announces new rates on the first business day of May and November each year.

As inflation increased over the past year, variable rates jumped, reaching an annual rate of 7.12% in November and 9.62% in May. However, the initial six-month rate window depends on your purchase date.

For example, if you purchased I Bonds on July 1, you will receive the annual rate of 9.62% until December 31, 2022. After that, you will start receiving the announced annual rate in November.

2. How do I pay taxes on the interest on my deposit?

Although bond interest avoids state and local levies, you are still liable for federal taxes.

There are two options to cover the bill: report the interest each year on your tax return or defer until you repay the I bond.

While most people get over it, the choice depends on several factors, explained Tommy Lucas, CFP and registered agent at Moisand Fitzgerald Tamayo in Orlando, Florida.

All these decisions refer to the ultimate purpose of this investment.

tommy lucas

Financial Advisor at Moisand Fitzgerald Tamayo

For example, if you choose to pay taxes on your I Bond interest each year before receiving the proceeds, you will need another source of income to cover these levies.

However, if you earmarked those funds to pay for education expenses, the interest is tax-free, so paying levies every year doesn’t make sense, he said.

“All of these decisions come down to the ultimate goal of this investment,” Lucas added.

3. What happens to my I obligations if I die?

When you create a TreasuryDirect account to buy I Bonds, it’s important to add what’s called a beneficiary designation, naming who inherits the assets if you die.

Without this designation, it becomes more difficult for relatives to collect the I bonds, and may require time and expense to go through probate court, depending on the amount of the I bond, Sestok explained.

“I personally make sure my clients do it right in the first place,” he said, explaining how adding payees up front can save headaches later.

However, if you create an account without a beneficiary, you can add one online by following the steps outlined here on TreasuryDirect. You can call support to ask questions, but they’re currently experiencing “higher than usual call volumes,” according to the website.

With a designated beneficiary, bond heirs can continue to hold the asset, cash it in or have it reissued in their name, according to Treasury Direct.

Interest accrued to the date of death can be added to the original owner’s final tax return or the heir’s return. Either way, the recipient can decide whether or not to continue deferring interest, Lucas said.

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