'Series I' bonds will have an inflation guarantee

Staying Ahead

July 27, 1998|By Jane Bryant Quinn | Jane Bryant Quinn,Washington Post Writers Group

STARTING Sept. 1, you'll be offered a new type of U.S. savings bond.

It's an inflation-linked investment, dubbed a "Series I" bond. These bonds will protect your purchasing power in any economic environment. They'll pay a fixed return on top of inflation, no matter how high inflation goes.

The fixed return will probably run between 3 percent and 3.5 percent and will be added to the average inflation rate to determine your current yield. Say, for example, that an I bond's fixed, annual yield is 3.25 percent and inflation is 1.5 percent. Together, they'll give you an annualized yield of about 4.75 percent.

The inflation-linked portion of your rate changes every May 1 and Nov. 1. But the fixed portion of the rate remains the same for as long as you hold the bond.

With traditional Series EE savings bonds, the entire rate adjusts every May 1 and Nov. 1, in line with the general level of interest rates. EE bonds can also keep you ahead of inflation, but not reliably so.

Series I bonds will yield a bit less than Series EE bonds when you buy them new. That's the price you pay for the guarantee against inflation.

Savings-bond expert Dan Pederson looked at how I bonds might have behaved in the past, compared with EE bonds. He concluded that the two would have yielded about the same, if the fixed return on the I bonds was 3.25 percent. At the current, low rate of inflation, however, it would take a fixed yield of 3.75 percent for I bonds to return the same as an EE bond today.

Series I bonds, with real returns in the 3 percent range, yield more than short-term Treasury bills, says John Brynjolfsson of Pacific Investment Management Co. in Newport Beach, Calif.

No income taxes are due on your savings-bond earnings until the bonds are redeemed. At that point, you pay only federal taxes, no state or local taxes.

An individual can buy up to $30,000 in I bonds every calendar year. In addition, you can buy up to $15,000 of EE bonds. The financial institutions that handle EE bonds will handle I bonds, too.

Series I bonds will be priced in a more understandable way.

With EE bonds, you pay half the face value. For example, a $100 bond costs $50. You earn interest on the $50, which is added to the bond's value. It can take as long as 17 years for the bond to equal its face value. Many think there's a penalty for redeeming EE bonds before 17 years pass. There's not. The early-redemption penalty lasts only the first five years.

A $100 I bond will cost $100 and gain in value as interest accrues.

Alternatively, you can buy inflation-indexed Treasury securities (minimum investment: $1,000, maturing in five, 10 or 30 years).

These Treasuries make a fixed payment, semiannually; you also get an inflation adjustment that builds up in the bond until it's sold. Indexed Treasuries generally yield more than Series I bonds will, Brynjolfsson says.

The inflation adjustment on Treasuries is taxable every year (unlike Series I bonds, which are tax-deferred). So the Treasuries are best owned in a tax-deferred retirement account. The best way to buy: through a Treasury Direct account at the nearest Federal Reserve bank or the Bureau of the Public Debt, 202-874-4000.

Pub Date: 7/27/98

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