U.S. Savings Bond

A U.S. Savings Bond is a type of debt security issued directly by the U.S. Department of the Treasury. Think of it as a loan you make to the U.S. government. In return for your money, the government promises to pay you back your initial investment (the principal) plus interest over time. They are famous for being incredibly safe, as they are backed by the full faith and credit of the U.S. government, meaning a default is almost unthinkable. Unlike stocks or other types of bonds, you can't sell savings bonds to other investors on a secondary market; you buy them directly from the government and redeem them with the government. They are designed to be a simple, accessible way for ordinary people to save money securely. The two main types available today for new purchase are Series EE and Series I bonds, each with different ways of earning interest.

The process is refreshingly simple. You purchase a savings bond electronically through the Treasury's official website, TreasuryDirect. You can buy them in nearly any amount, from $25 up to an annual limit of $10,000 per person for each series (EE and I). Once you buy the bond, it begins to accrue interest. There are a few key rules about accessing your money:

• One-Year Lock-up: You cannot cash in a savings bond for the first 12 months.
• Early Redemption Penalty: If you redeem the bond between year one and year five, you'll forfeit the last three months of interest as a small penalty.
• After Five Years: You can redeem the bond anytime without penalty until it reaches its final maturity at 30 years, after which it stops earning interest.

This structure encourages long-term saving and makes savings bonds unsuitable for money you might need in an emergency.

While the Treasury has issued many types of bonds over the decades, only two are available for new purchase today.

These are the classic, no-frills savings bonds. They earn a fixed rate of interest that is set at the time of purchase and remains the same for the life of the bond. The real magic of a Series EE bond is its unique guarantee: the Treasury ensures that the bond's value will double if you hold it for 20 years. For example, a $100 bond will be worth at least $200 after two decades, regardless of how low the stated interest rate is. This provides a predictable, albeit modest, long-term return.

These are the inflation-fighters. The “I” in Series I stands for inflation. They are designed to protect the purchasing power of your money. Their interest rate is a combination of two components:

• A fixed rate: This rate is set when you buy the bond and stays the same for its 30-year life.
• A variable inflation rate: This rate is adjusted twice a year (in May and November) based on changes in the Consumer Price Index (CPI).

When inflation rises, the interest rate on your I bond goes up, helping your savings keep pace. This makes them an extremely popular choice during periods of rising prices.

For a value investor, savings bonds present a classic trade-off between safety and return.

A core principle of value investing is capital preservation—don't lose money. On this front, savings bonds are a superstar. Their backing by the U.S. government provides unparalleled safety for your principal. They are also simple to understand and manage, requiring no brokerage account or complex analysis. They represent a secure, “sleep-well-at-night” holding for the most conservative portion of a portfolio.

The price for this supreme safety is low returns. Over the long run, savings bonds will almost certainly underperform riskier asset classes like the stock market or even high-quality corporate bonds. This represents a significant opportunity cost. Furthermore, they are an illiquid asset. The one-year lock-up period and five-year penalty window mean your money is not easily accessible. A value investor must weigh the need for safety against these lower returns and lack of liquidity.

Savings bonds offer some attractive tax advantages that enhance their overall return.

• State and Local Tax Exemption: The interest you earn is completely exempt from state and local income taxes. This is a significant benefit for investors living in high-tax states.
• Federal Tax Deferral: You owe federal income tax on the interest, but you can choose to defer paying that tax until you cash in the bond or it matures. This allows your earnings to compound tax-deferred for up to 30 years.
• Education Tax Exclusion: This is a fantastic potential benefit. If you redeem savings bonds and use the proceeds to pay for qualified higher education expenses for yourself, your spouse, or a dependent, the interest earned may be completely exempt from federal taxes. This benefit is subject to income limitations, so be sure to check the latest rules on the TreasuryDirect website.