Another good time to look at I-Bonds …

Last October, I told my Income Superstars subscribers it was a good time to consider diversifying their income portfolios with I-Bonds, and I also wrote about the investments in a few Money and Markets columns around the same time.

My reasoning was that I-Bonds represented a great deal for your ultra-conservative money — especially compared to other traditional alternatives like Certificates of Deposit (CDs).

What about now though? Is this still true?

Well, last week we got the latest official announcement on what this current period’s interest rates will be for newly issued I-Bonds and existing ones. And my answer is still “yes.”

Here Are Some of the Reasons Why
I Still Like I-Bonds for Ultra Conservative Funds

Let’s start with the most important aspect — how much you’ll get paid.

As you might remember, by holding these bonds you earn interest that is comprised of two components: A baseline interest rate and an inflation adjustment.

The baseline rate — which sticks with the bond for its entire 30-year lifespan — is still zero and that’s unlikely to change for a while.

But the inflation adjustment — which is determined twice a year on May 1 and November 1 — is based on changes in the Consumer Price Index (CPI) for the prior six months:

• The rate determined last May was 2.3 percent, or 4.6 percent annually …
• The rate determined on November 1, 2011 was 1.53 percent, or 3.06 percent annualized …
• And the NEW rate announced last week is 1.10 percent, or 2.2 percent on a yearly basis.

Now, let me explain these numbers a bit more.

If you had bought these I-Bonds when I talked about them last year, you earned 4.3 percent for the first six months … and now you’re currently earning 3.06 percent. Overall, that will amount to an average annual return of 3.83 percent for your first complete year of ownership. And now after that, you’ll earn 2.2 percent for the next six months after that.

Even if you go out and buy new I-Bonds right now you will at least still get that 2.2% return for your first six months of ownership. There’s no way to know what the following six months will produce yet.

According to Bankrate.com even so-called “high-yield” 1-year CDs — which often require bigger minimum deposits — are currently paying about 1%.

So even if the next six-month period of I-Bond interest is ZERO you will still do as well over the next year as you would by holding the CD. I say that because half of 2.2 percent is 1.1 percent.

Plus, with I-Bonds you get additional advantages:

Advantage #1: Your interest is exempt from state and local taxes. So depending on what state you live in, this could further widen the amount of money you end up walking away with on your initial investments.

Advantage #2: Under certain circumstances it is also possible to avoid federal taxes! If you use the proceeds from your I-Bonds to fund qualified education expenses, you don’t have to pay Uncle Sam anything.

Advantage #3: You actually get BETTER protection against losses. First off, unlike most other bonds, I-Bonds aren’t marketable securities. That means you can’t buy or sell them to other investors — i.e. their value doesn’t fluctuate so you can’t lose anything.

What’s more, they are backed by the full faith and credit of the U.S. government. (You there in the back of the room, stop snickering!)

Realistically, that backing is even more direct than FDIC or NCUA insurance which makes I-Bonds easily as safe as CDs.

What Are the Downsides Then?
A Few Wrinkles You Should Know About …

Perhaps the most important thing is that you MUST hold an I-Bond for at least a year before you redeem it. So they are clearly not ideal for your immediate emergency funds.

Beyond that restriction, you will forfeit the most recent three months of interest if you cash in I-Bonds before five years since you bought them. But I don’t consider that a huge deal … especially since in most cases you’ll still come out with more interest than from other alternatives. And in addition, most CDs also carry early-redemption penalties.

Other fine-print includes the fact that you can only buy $10,000 worth of electronic I-Bonds per social security number.

Also, paper I-Bonds are no longer available from brick-and-mortar financial institutions. In fact, the only way you can still buy new paper I-Bonds is by using your IRS tax refund — and in this case, the limit is $5,000.

But these restrictions aside, I think I-Bonds remain a compelling choice for a little bit of your keep-safe money. For more information, or to buy some I-Bonds, just visit www.treasurydirect.gov.

Best wishes,

Nilus

P.S. Of course if you’re looking for even more income — from investments that I also consider very safe — you should look into some of my favorite dividend-paying stocks. Many of them are paying two or three times as much in interest as I-Bonds right now. Just click here to learn more about the specific stocks I’m recommending.