Buying Tax Free I-Bonds

Savings vs Investing, Keeping up with Inflation

The best investment for any entrepreneur is usually to grow the business, but what if you're up against a dead end or just temporarily on hold? In 2003, I bought a $10,000 I Bond, a 30 year, inflation adjusted savings bond backed by the full faith and good intentions of the United States government. The money had been sitting in a savings account paying less than 1%, and it didn't look like I'd need it for a year, and the I-bonds are adjusted twice a year for inflation (or deflation, which doesn't worry me). After 1 year, the bond can be cashed at any time, with a penalty of 3 months interest, the same as most CDs. After five years, there is no penalty. Plus, interest on federal bonds is state tax free.

So, how much do I Bonds pay? I Bond interest rates are built from two components, the fixed rate the bond pays at purchase time, plus the inflation rate that is adjusted every six months. Both rates are computed or set on May 1st and November 1st of each year. Fixed rates have been steadily falling since May of 2000, despite recent rises in the Fed Funds rate, due to steadily increasing interest in I-Bonds. The inflation rate component reached a recent low in May 2002, and has been up in 4 out of 5 semi-annual adjustments since. The problem is that the government inflation figures are based on the CPI, which which is designed to measure cost of living rather than inflation. For example, medical costs make up just 6% of the CPI-U while they are closing on 20% of the GDP! So, the whole thing is a cheat, but what can we do:-) The following table (information from the Treasury Direct Site) shows the rate the I Bonds are paying based on the issue date:

Updated on May 10, 2007

Interest Rate Date Purchased

3.74% May 2007 - Oct 2007

3.84% Nov 2006 - April 2007

3.84% May 2006 - Oct 2006

3.43% Nov 2005 - April 2006

3.63% May 2005 - Oct 2005

3.43 % Nov 2004 - April 2005

3.43 % May 2004 - Oct 2004

3.53 % Nov. 2003 - April 2004

3.53 % May 2003 - Oct. 2003

4.04 % Nov.2002 - April 2003

4.44 % May 2002 - Oct. 2002

4.44 % Nov. 2001 - April 2002

5.46 % May 2001 - Oct. 2001

5.86% Nov. 2000 - April 2001

The rates in the table never agree with the eal-time rate I see for my own bond on the treasury direct site, and despite a correspondece with them, I'm none the wiser. Frankly, all I got was canned responses and repetitions. I'm not the bond expert, in fact, I didn't even know that the $10,000 I-Bond I bought through Treasury Direct could be partially cashed until I read "Savings Bond Alert" by Tom Adams. He has a whole website dedicated to savings bonds at http://www.savings-bonds-alert.com. It includes far more up-to-date information related to owning and cashing savings bonds than I saw on the Treasury Direct site, despite the fact they sell the things! A option to buying bonds with the some tax advantage is to buy note or treasury bills.

The dollar is still artificially overvalued in the world for a variety of reasons, primarily because most people with money like it that way. The trade deficit continues in a death spiral and America's principle export has become promissory notes. Someday, all those retired Japanese and all those young Chinese are going to want to buy stuff, you know, like Americans. They're going to ask for their money back.. When that happens, Americans will have less money to spend on exports, causing even more of those loans to be called in. The only solution (aside from everybody tightening their belts and paying 75% of their income in taxes) will be to inflate the debt away. It doesn't help any that the government vastly underrates inflation with the CPI-U.

One way to play the foreign debt issue is to do some investing overseas. I've been in and out of Japanese market twice, once when the Nikkei ran from 10,000 up to 18,000, and more recently when it went from 6,500 to 10,000, making it my most successful investing strategy of all times:-). I use the iShares EWJ to play the Nikkei, and while I've never been a day trader or bought on margin, I have no problem with selling a stock a couple days after buying it if I don't like the way it's going. Bond funds are for suckers who don't realize that their investment loses value when the rates go up.

My aggressive investing, or gambling, I do in my SEP brokerage account for two reasons. First, the money is locked up tight for the next 25 years in any case, and second, I can trade every day if I want and not worry about capital gains and losses for tax purposes. All the money in the SEP is tax deferred and gets taxed at the regular income tax rate when it comes out. I think people would invest a whole lot more wisely if they took the time to understand the formula for interest calculation, forcing themselves through itereation on mortgage and bank interest.

This guide is in progress, and I welcome your comments, questions and suggestions