Savings bonds are a unique investment that allow individuals to invest in government debt at investment amounts as low as $25, or as high as $5,000. Because they are government issued, they are extremely safe, with little risk of default. Savings bonds are purchased at half of face value (a $100 bond is purchased for $50). These bonds are held, and accumulate interest until they are cashed in. U.S. Treasury bonds pay interest every six months and are redeemed at face value per the U.S. Treasury Department’s Treasury Direct. They are cashed at initial investment plus any interest accumulated over the years. Like any other investment, they have advantages and disadvantages. Below is a summary of the advantages and disadvantages of savings bonds:
Advantages:
They can be purchased in very small increments. Because of that, savings bonds make excellent gifts for kids. Generally, children will keep them until they are grown and the bonds expire. At that point, they are cashed in with interest. The bonds accumulate tax free. While the bonds are held, any interest earned on the investment is not taxed. Once the bonds are cashed in, any interest accumulated is taxed in the year they are cashed. If the proceeds from the bonds are used to pay for college expenses, they may be tax free when cashed in. There are some income limitations on this benefit, so please check with your tax advisor if you plan on using the bonds as a college savings vehicle. They are easy to buy and sell. Effective January 2012, U.S. Savings Bonds will be purchased electronically according to Treasury Direct. However, banks will no longer be able to sell US savings bonds. There are no state income taxes due on the interest.
Disadvantages:
The interest rate is very low. Rates are based on the current level of general interest rates, so earnings will likely be minimal. The tax benefits discussed above can disappear if you are not careful. This is particularly true if the bonds are gifts for kids. Since children generally do not pay income taxes, there is not really any tax benefit. If the bonds are cashed during income earning years, the recipient will pay income taxes on the interest earned. You should only invest in these bonds during your high income years and sell them in your low income years in order to take advantage of the tax benefits. There are limitations as to the amounts of bonds that can be purchased. The annual limit for purchases of savings bonds is $5,000.
So, are savings bonds a good investment? The answer to that question depends on your circumstances. If you are looking for a low risk investment with some tax advantages, the answer is yes. Just understand that the interest earned will be very low. If you are looking for investment growth or are in low income, low tax years, then you would be better off looking for a different investment.
Source: Treasurydirect.gov