Why Are I-Bonds So Confusing?

The fixed rate of the I-Bonds were announced yesterday and it's 0.2%, down from 0.3% in November. If you add in the inflation adjusted semi-annual rate, the composite rate for the period between 5/1/2010 - 10/31/2010 is 1.74%. Since the prior composite rate was 3.36%, I decided to front-load my planned purchases and bought $300 on April 29.

What's really confusing about I-Bonds, though, is that I really can't compare the current composite rate to APYs offered by banks since the I-Bond rates change every 6 months. Additionally, I noticed something peculiar about my I-Bonds.

I already knew that:
1.) The applicable composite rates are announced every May 1 and November 1;

2.) The composite rates are applied every 6 months from the month of purchase. For example, I-Bonds that I buy in January will have the current composite rate until June 30. (And February purchases will have the current rate until July 31, so on and so forth.) The new composite rate for the January I-Bond will apply between July 1 to December 31. The next composite rate change will take place anew on January 1.

Although that's simple enough, I also discovered that the interest doesn't start accruing until 3 months after purchase.

Using my January 2010 $50 I-bond purchase as an example:

1.) The applicable composite rate at that time was 3.36% and would apply until June 30, 2010. Since it was just announced that the new composite rate is 1.74%, the new rate would apply between July 1 and December 31, 2010.

2.) The 3.36% interest didn't start accruing, however, until April 1, 2010. The I-Bond will continue to accrue at 3.36% until September 30, 2010. The bond will accrue at the new rate of 1.74% between October 1, 2010 and March 31, 2010.

If I sold the I-Bond in January 2011, after the requisite 1-year holding period, I would be penalized 3 months' worth of interest. In this case, I'm wondering if I'll be penalized the 1.74% interest that I will be accruing between 10/1/2010 - 12/31/2010. If so, my January 2010 I-Bond would only have a net effective interest rate of about 1.78% (if I sold after only 1 year). If you take into account that it's exempt from state tax, I guess it still beats the current 12-month CD rates that are available out there.

But still, that's a lot less than the 3.36% interest rate that I thought I was getting. And I may have been better off just sticking my money into my SmartyPig savings account that's yielding 2.01%.

Looks Like I'm Gonna Start Buying I-Bonds Again

In October 2008, I started buying $25 worth of I-Bonds every month to create a tax advantaged "income stream" in retirement. I know it's not much, but since I-Bonds are supposed to "keep up" with inflation, I should be able to buy a couple of lunches every month with my I-Bonds when I'm in my 60's. :-D



Between October 2008 - April 2009, I was getting 4.83% - 5.64% APY on my I-Bonds for 6 months. But between May 2009 to October 2009, new I-Bond purchases were only getting 0.00% APY for 6 months. Not worth buying, so I've stopped.

All of my purchases have also re-set to 0.00% APY for the next 6 months and I was strongly considering just redeeming them once I've held them for the requisite 1 year.

But based upon Bureau of Labor and Statistic's new September CPI figures, new I-Bond purchases should be getting atleast 3.07% APY. My current I-Bonds will also re-set to rates between 3.07% - 3.78% on a rolling basis the next 6 months.

Since ~3.07% APY is better than anything I'm getting in any of my savings accounts, I think I'll start buying I-Bonds again after November 1. Maybe I'll buy an additional $150 to cover the past 6 months that I didn't purchase. And I guess I won't be redeeming my current I-Bonds either.

Update re: Savings Bond Rates

[Warning: Boring geek talk about I-Bond rates ahead.]

I previously wrote about how my I-Series Savings Bonds' interest rates will change effective May 1. Since I'm new to purchasing I-Bonds, I wasn't quite sure how the rates re-set and I had couple of doubts.

The interest rate on I-Bonds are a bit confusing to calculate since it is a composite rate of a fixed rate + a variable rate. The variable rate based upon the CPI data for the past 6 months.

In an inflationary economy, the variable rate will be positive, so it would increase the composite rate. Conversely, in a deflationary economy, the variable rate will be negative, thereby reducing the composite rate below the fixed rate.

For those of you who are mathematically inclined, official formula is:

Composite Rate = Fixed Rate + (2 x Semiannual Rate) + (Fixed Rate x Semiannual Rate)

May Semiannual Rate= (CPI-U (current March) div. CPI-U (last Sept.)) - 1

November Semiannual Rate = (CPI-U (current Sept.) div. CPI-U (last March)) - 1

Update: Effective 5/1/09, the fixed rate is 0.1% and the semiannual rate is -2.78%.

My doubts included:

1. Do the I-Bonds' rates re-set every 6 months on a rolling basis from the date of purchase? (It was my understanding that it did.)


2. In a deflationary economy where the variable rate is significantly less than the fixed rate, will the I-Bond continue to accrue the fixed rate or will the composite interest rate be 0%? (Under such a scenario, it was my understanding that the rates would be 0%.)

I checked my TreasuryDirect account this morning and my questions were answered.

It appears that the I-Bonds' rates do re-set every 6 months on a rolling basis from the date of purchase. If you look at the chart below, the I-Bonds I purchased between November '08 and April '09 have the same fixed rate of 0.7% and are subject to the same variable rate.

If the I-Bonds re-set all at once, they should carry the same interest rate. However, the only rate that changed was the I-Bond that I purchased in November '08 (i.e., the I-Bond I purchased 6 months ago). So it appears that the I-Bond that I purchased in December '08 will re-set next month, so on and so forth.

Additionally, it appears that in a deflationary economy where the variable rate is significantly less than the fixed rate, the I-Bond will accrue 0%, not the fixed rate. (Bummer.)

I created a spreadsheet that helps me keep track of the past interest rates as well as to "predict" what the future interest rates will be.

I'm glad I purchased in April the I-Bonds I intended to purchase the next 6 months. Based upon my spreadsheet, the I-Bonds I purchased in April will accrue 5.64% for the next 6 months and 0% the following 6 months.

Had I purchased $25 every month starting in May per my original plan, I would've likely earned 0% for the next 12 months. For once, it appears I hedged correctly. Hurray!

Sorry for the boring discussion on a Friday. Hope you all have a great weekend!

Purchasing My Next 6 Month’s Worth of I-Bonds Before 4/30/09

(Warning: This post contains a lot of geek-talk about I-Bonds and interest rates. Before you read this post, I recommend that you read about how I-Series bonds' rates are set and re-set at MyMoneyBlog. Jonathan lays out the official formula and a step-by-step explanation how to estimate and calculate current and future interest rates on your I-Bonds.)

Update: I've been told that all I-Series bonds rate will re-set at 5/1/09, not on a 6-month rolling-basis from the date of purchase. There seems to be contradictory opinions about this and I don't know the answer since I'm new in the savings bond game. But I'll find out 5/1/09 and I'll write an updated post as to whether all of my savings bonds have re-set or not.

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Since last October, I’ve been purchasing $25 worth of I-Series Savings Bonds every month. Depending upon when I buy the bonds, each bond carries different interest rates with different re-set dates.

Since I’ve only recently started purchasing I-bonds, it hasn’t been difficult to keep track of the interest I’ve been accruing. However, now that it's been over 6 months since my first purchase, most of my I-bonds will start re-setting.

After nearly over-working my math-challenged brain, I’ve determined that:

• The $25 I-bond that I purchased in October 2008 accrued 4.83% interest until 3/31/09. It started accruing 4.92% APR on 4/1/09 and will continue to do so until 9/30/09. It will accrue 0% for the following 6 months starting 10/1/09.


• The I-bonds I purchased between 11/1/08 and 4/30/09 (total $150 over 6 months) are currently accruing 5.64% interest for the first 6 months from the first day of the month I purchased them. The interest rate on the bond purchased in November ’08 will re-set to 0% on 5/1/09 for 6 months. The savings bond I purchased in December ’08 will start accruing 0% on 6/1/09, so on and so forth.

Confused? It confused the heck out of me too! I'm the type of person who can only comprehend math problems visually and not conceptually, so I decided to create a spreadsheet that helps me keep track of the past interest rates as well as to "predict" what the future interest rates will be.

Although the fixed rate for 5/1/09 hasn't been announced yet, based upon the most recent March CPI data announced, it looks like savings bonds purchased between 5/1/09-10/31/09 will accrue 0% interest. (Bummer.) In that case, I’m better off putting my money into an online savings account.

In the alternative, I can just buy the bonds I intend to purchase between 5/1/09-10/31/09 (i.e., $25/month x 6 months = $150 total) on or before 4/30/09.

If I do this, I can accrue 5.64% interest until 10/31/09 and accrue 0% 6 months thereafter. That will give me a net interest rate of 2.75%, which is much higher than what I’m currently getting in any of my savings accounts. If I take into account the fact that the interest on the I-Bond won’t be taxed by the state, I’ve estimated the net effective interest rate will be around 3.00% for the next 12 months. (Note: I haven’t taken into account the 3 month penalty for selling the I-Bonds prior to the 5-year holding period since I don’t intend to cash them out before then. After all, the I-Bonds are an important part of my long-term savings strategy.)

The risk I take in buying the I-Bonds rather than putting the $150 into my savings is that if the current deflationary economy continues, my I-Bonds will continue to accrue 0%. But what the heck, it’s only $150 and it's not like I'm wasting it, right? And besides, if hyper-inflation occurs in the future, these puppies will have a n-i-i-c-e interest rates then. :-D