Shia Schiff hated looking at his monthly bank statements. He had tens of thousands of dollars sitting in a savings account earning nothing. Actually, after inflation he was losing money every minute his cash sat around. But what other option did he have? His long-term savings were invested in mutual funds and were doing well, but there seemed to be no way to squeeze a bit of growth out of cash he didn’t want to invest. Even high-yield CDs were offering under 1% despite tying up his funds for months or even years.

What solution was he overlooking?

Hidden in Plain Sight

People have been asking me for years how to squeeze a bit more yield out of their dormant cash, so I’m a bit abashed to admit that the best deal available for savings was staring me right in the face all along. A recent Wall Street Journal column about I bonds has generated a lot of buzz. These CD-type products, offered and backed by the US Treasury, are now offering yields over 3.5%, way above any other similar option. But almost no one talks about them. In consolation to the abashed, the article mentions that even among financial professionals, I bonds are still quite unknown.

“I” is for Inflation

I bonds are loans made by American citizens to the US government. But unlike FDIC-insured bank CDs or regular Treasury bonds, the interest rate includes an inflation-indexed yield. Every six months, in addition to a fixed rate which is now 0%, I bonds rates are adjusted to reflect recent inflation. Because inflation skyrocketed in early 2021, the six-month rate set on May 1 was 1.77%, equaling 3.54% annually. Compare this with saving account rates paying as little as 0.02% or even high-yield CDs which are offering about 0.5%. Clearly, I bonds are a significant metziah for savers at this time.

Crushing Bank Accounts and CDs

I bonds are best thought of as CD replacements. They are only available directly from the US Treasury (treasurydirect.gov) and can’t be sold or transferred after purchase. Also similarly to CDs, I bonds must be held for at least 12 months, and terminating them within five years of purchase incurs a penalty totaling three months’ worth of interest. But thanks to I bonds’ relatively high rates, this bite isn’t too bad at all. An annualized 3.54% rate still far surpasses any other equivalent government-backed savings option, even if it’s lowered by 25% as a penalty.

Tax-Free Returns

Adding to the benefit, I bond yields are tax-sheltered investments. Yields grow tax-deferred, and the proceeds are state tax-deductible. Those with moderate to low incomes can snag a real tax bargain by using I bond proceeds to offset higher-education expenses; in that case, they are tax-free! For those in the 25% tax bracket, I bonds’ current 3.54% tax-free interest is the equivalent of a taxable 4.72%, which far surpasses any other no-risk investment. Currently, couples with MAGI (modified gross adjusted income) below $123,550 can get the full deduction, and those with $153,550 can get a partial deduction.

Perhaps Even for Yeshivah Education

A further fascinating twist on this unique investment may be rolling I bonds into 529 college savings plans. 529 rollovers can also be eligible for the tax-free I bond rollovers. And since college savings plans now generally allow K–12 tuition as qualified education expenses, I bonds can be utilized tax-free by many frum families. Speak to your accountant for details on using these tax structures. There are plenty of conditions that must be met, but those who are a bit savvy can turn I bonds into a real win.

The Catch: $10,000 Limits

While you can buy as little as $25 in I bonds, the maximum anyone can pick up annually is $10,000 per social security number. You can snag another $5,000 by claiming your tax refund as an I bond and perhaps another $10,000 per person using revocable trusts. Those with kids can buy $10,000 for them every year, though that opens up issues with UTMAs, as we’ve touched on in prior articles. But stashing tens of thousands per year can be more than enough for most. Together with its tax deductibility for education expenses, I bonds can be a very handy tool for the middle class.

Hard to Celebrate

Despite I bonds’ unique features, it’s hard to celebrate an option that, at best, keeps you from falling behind financially. This metziah is the economic equivalent of a heap of potato peels for someone who is starving. People are only salivating over I bonds because they’ve been starving for yield. Keeping up with inflation is better than losing purchasing power, but it’s not moving you forward either. For those who can’t use the aforementioned tax breaks, I bonds are only relatively exciting, especially when you consider annual limits on purchase amounts.

Worth the Time and Effort?

Those who can’t use the tax-free education rollover options may decide that protecting relatively small sums via I bonds isn’t worth the time and effort. Also, some who do want to accumulate a portfolio of I bonds over time may find their financial advisers less than eager to assist. Most advisers take commissions or annual portfolio fees, which aren’t feasible via the direct bond structure offered by the Treasury. This lack of financial incentive may be part of the reason many in the financial industry don’t push these unique investments. It’s a good thing you read this column!

Just by the Way: I Bonds Versus TIPS

The US Treasury also offers TIPS, or Treasury inflation-protected securities. TIPS are also indexed to inflation and can be purchased in unlimited quantities, but they have very different characteristics from I bonds. Because TIPS trade like regular bonds, investors may lose money if interest rates rise significantly after a purchase. The connection to the bond market is also why TIPS currently trade at negative yields. Nominal bond yields are offering negative real returns, and so are TIPS. I bonds yields will always at least match inflation and are a better deal, subject to their limitations.