The Lowdown On Savings Bonds

Savings bonds are often overlooked by investors searching for that perfect investment; however, savings bonds represent a safe investing vehicle with added benefits that many products don't offer.

For those unfamiliar with or needing a refresher on these products, savings bonds are a debt obligation of U.S. government (or some other country's government), and bonds are backed by the Treasury Department and monitored by the Bureau of Public Debt. Savings bonds are non-negotiable securities (unlike stocks, which fluctuate daily) that pay an interest rate that is compounded semi-annually and accrued monthly.

Because savings bonds are backed by the U.S. federal government, these bonds are considered to be one of the safest investments available. They provide a steady stream of interest income while preserving the value of your principal.

There are five main benefits of purchasing savings bonds:

   1. While offering the highest of credit ratings, the U.S. government offers interest rates that are competitive with the market. Some bonds are adjusted for inflation while others are offered at a discount on an accrual basis, guaranteeing redemption of face-value after 17 years. In addition to this, all bond interest payments are compounded semi-annually and accrued monthly so that your investment grows faster.

      This monthly interest accrual is something that is not usually found in most other bonds. For example in a corporate bond you receive your interest payment every six months. In the Series EE and Series I savings bonds, the interest is calculated monthly, and then reinvested rather than paid out. For calculation purposes, the government will use the value of the bond on the date that compounding is to take place to calculate the interest payment.

   2. As the U.S. government issues savings bonds in hopes of attracting more people to save, they sweeten the deal with added deferred and exempted tax benefits. All of the interest income earned on these bonds is completely exempt from state and local income taxes and postponed from federal taxes until redemption or maturity.

      This can be an important issue for many investors, especially those in the higher federal tax brackets or those living in regions with high local and state taxes. Additionally, the interest may be exempt from federal income taxes if the bond is used to pay for educational expenses of the bondholder or his or her significant other or child.

   3. Savings bonds also provide a convenience not readily found in other fixed income products. They are issued in eight different denominations starting at $50 and moving progressively up to $10,000. This produces flexibility for investors looking to invest sums of money in increments less than $1,000; furthermore, these bonds can be redeemed at any time after the initial minimum holding period of six months. Keep in mind that if you do redeem early (before the five year holding period), your principal will never decrease but there will be a penalty charged, equal to the last three months interest payments.

   4. Even though these bonds are not marketable, like a stock or corporate bond, purchasing and redeeming savings bonds is relatively straightforward. You can buy these bonds at any bank, or, by using major credit cards, you can even buy savings bonds online at the Bureau of Public Debt's website; some companies even offer internal monthly purchase plans that deduct employee paychecks. Redeeming them is even simpler as most banks will redeem the bonds with proper identification, even if you don't hold an account with them.

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The Lowdown On Savings Bonds