Savings Bonds
Written by Fiona Gu   

The Savings Bonds Savings Option is ideal for families that want a low risk and good college education investment return for their children.
 
Some types of the savings bonds offer special tax benefits for certain education expenses. Families have the choice of enrolling in Series EE Savings Bonds, Series I Savings Bonds, US Treasury Inflation-Indexed Securities (TIPS), and Zero Coupon Bonds (STRIPS).

Advantages:
  • Low-risk and humble investment return that are not marketable securities.
  • Series EE Savings Bonds and Series I Savings Bonds provide tax benefits for certain education expenses.
  • Extremely safe investments because they are supported by the credit of the US Government.
  • Principal and gained interests are safe and not affected by market changes.
  • Registered with the US Treasury Department and can be replaced for free if lost, stolen or destroyed.
Education Bond Program:
This particular program allows tax free interest on specific savings bonds when the bonds are restored to pay for certain higher education costs or to transfer into a section 529 plan. Only certain bonds are eligible for this program, these include Series EE Bonds issued after December 31, 1989 and all Series I Bonds. Series HH bonds are not qualified and bonds bought before 1990 may not be exchanged for bonds issued after 1990. 

Ownership of the Bonds:
  • Bond owner must be at least 24 years old on the issue date of the bond (first day of the month when bonds are purchased).
  • Parents can buy bonds for their children, but parents must use their name to register. Children cannot be co-owners, but they can be recipients. Individuals can also buy bonds for their own education under their own name.
  • Owners of the Series EE Bonds can buy $30,000 per year maximum. This limit is the same for owners of the Series I Bonds. When husbands and wives buy bonds as co-owners, they can buy $60,000 per year maximum.
  • If parents accidentally purchased bonds in their children’s name by mistake, then parents should change it to their name if the money used to buy the bonds is not the children’s and the bonds are purchased after December 31, 1989.
Qualified expenses that are covered by the bonds include tuition and specific fees at colleges, universities and vocational schools. The excluding costs are room and board, books and courses that are not mandatory for the degree or the certificate-granting program. 
 
Furthermore, if financial aid is received in the same tax year, eligible expenses are lowered. Other educational tax breaks would also lower the eligible expenses. Costs or transfers need to be in the same tax year in order for the bonds to be recaptured.
 
Bond earnings can be used for the individual’s own education, the spouse’s education, or any education of a dependent that the individual claim an exemption on their income tax return.

Declaration of interest exemption:
  • Grandparents who own education bonds can declare interest exemption for either their children or grandchildren (depending on who is listed as the dependent on the grandparents’ income tax return).
  • Married parents must submit a joint income tax return to be eligible for interest tax exclusion.
  • If the bond earnings are not used for educational purposes, then the excludable interest is decreased proportionally.
  • Interest is also excluded from the state and local taxes.
 
NOTE: Bonds registered under the children’s name is not eligible for interest exclusion. However, interest on the bonds is taxed at the child’s income tax rate, so there could still be some tax savings.
 
Series EE Savings Bonds & Series I Savings Bonds:
These two bonds are very similar except that Series I Savings Bonds have more flexible policies. The list below summarizes the key characteristics to these bonds:
  • Also called accrual or appreciation-type securities. This means that the recovery amount increases regularly as the interest is added to the security’s principal.
  • Interest builds up and becomes part of the redemption amount (principal + interest) that is paid when the bond is recovered.
  • Increases in value monthly and the interests are compounded every six months.
  • It can be recovered after the first six month. If it is redeemed within the first five years of the issue date, then there is a penalty to forgo three months of interest.
  • Can earn interest up to 30 years from the issue date.
  • Exempt from state and local income tax. Federal income tax could be delayed until the bonds are recovered or until 30 years, depending on which ever date comes first, and then can receive income tax exemption for higher education expenses.
  • Can be purchased through a Payroll Savings Plan (if only the employer is a participant), EasySaver Plan (direct purchase via transfers from checking or savings account), Savings Bond Direct or at most banks.
  • There are eight values that can be purchased: $50, $75, $100, $200, $500, $1,000, $5,000, and $10,000.
Differences of the EE and I Savings Bonds:
Series EE Savings Bonds
 Series I Savings Bonds
Released at 50% face value.  so $100 EE Bonds should cost only $50. Released at full face value.  So $100 I Bonds would cost $100.
One person can buy at maximum of $30,000 face value ($15,000) per year. One person can buy at maximum of $30,000 face value per year.
Interest is determined at 90% of the six-month average earning on five-year Treasury Securities.  Rates are published every May 1 and November 1. Earn a definite rate of return by combining a half year inflation rate adjustment and a fixed base rate of return with reference to the Consumer Price Index for All Urban Consumers (CPI-U).

Fixed rates and inflation adjustments are published every May 1 and November 1.
Can definitely reach face value in 17 years.  the Treasury Department would just need to make a one-time adjustment to make the bond meet the face value.  so the bond has a definite rate of return if it is held for 17 years. Redemption amount of the bonds will be unchanged until the combined gaining rate is greater than zero.

Inflation adjustment gives "extra" return on the investment.

US Treasury Inflation-Indexed Securities (TIPS):

Similar to Series I Savings Bonds, but do not have special education tax treatment of Series I Savings Bonds.
 
Zero Coupon Bonds (STRIPS):

The Zero Coupon Bonds Savings Option is ideal for families with advanced investors.
 
These bonds are also called the Separate Trading of Registered Interest and Principal of Securities (STRIPS) in the United States. It is fixed-rate and fixed-return investment sold at a reduction off the maturity amount. These bonds are guaranteed to recover the maturity amount if held until maturity.
 
STRIPS allow investors to divide Treasury notes and bonds into interest and principal and trade them as discrete securities. When this happens, each interest payment and principal payment is a separate zero-coupon security. They are not issued or sold directly to investors. Investors can buy via financial institutions and brokerages. Interest needs to be considered as income in the same year it is earned even though it is not received until maturity or until the STRIPS are sold.

The importance of reaching the maturity:
  • If a STRIP is held until maturity, the investor would gain the difference between the purchase price and the redemption amount (as income).
  • If a STRIP is sold before maturity, the investor may obtain a gain or a loss depending on the market price. The market price is based on future earnings, so when the market price decreases, there would be a loss. However, if interest rates decrease, then there would be a gain.
Advantages:
  • Guaranteed a specific investment return on a definite date. 
  • Avoids a souring economy because the market value rises when the interest rate goes down.
For more information on savings bonds, please visit US Treasury’s Savings Bonds for Education’s website. Send questions about savings bonds to the Bureau of the Public Debt at This e-mail address is being protected from spambots. You need JavaScript enabled to view it . To obtain current information, please call 1-800-4US-BOND (1-800-487-2663) or visit www.savingsbonds.gov.
 


 
Last Updated on Tuesday, 21 December 2010 04:36