What Is the Best Type of Saving Bonds to Get?

by Tim Plaehn

U.S. savings bonds are a good choice for setting up a long term investment plan with modest amounts of money. Purchase savings bond with as little as $25. The bonds are very safe and the interest grows tax-deferred. The U.S. Treasury currently offers two types of savings bonds.

Series EE Savings Bonds

Series EE savings bonds are the fixed rate option. Once an EE bond is issued, it will continue to earn the same rate of interest until the bond is redeemed or 30 years after issue. Purchase paper series EE bonds for one-half the face amount. For example, a $500 denomination EE bond costs $250. The Treasury guarantees currently issued EE bonds will reach the denomination value -- doubling the original investment -- no later than 20 years after the bond is issued.

Series I Savings Bonds

Series I savings bonds pay interest, which is adjusted for inflation as measured by the consumer price index. Series I bonds are credited with two forms of interest. An I bond earns a fixed rate set when the bond is issued and the bond earns additional interest based on the rate of inflation. The Treasury adjusts the inflation portion of the earnings every 6 months, on May 1 and November 1. Paper I bonds can be purchased for as little as $25 and the initial denomination of the bond is the same as the cost.

Expectation of Higher Rates

An investor who forecasts inflation and interest rates will increase in the future is better served by series I bonds. The inflation adjustment factor of I bonds will allow them to earn higher rates of interest if high inflation returns. If interest rates increase, one of the causes will probably be higher inflation, so I bonds will adjust for higher interest rates. Compare the current difference between the rates of I and EE bonds to determine how much the inflation factor must rise in order for the I bonds earn more than EE bonds.

Interest Rates are Predicted Lower

The fixed rate paid by EE bonds provides protection against falling interest rates. If the investor plans to hold the bonds for at least 20 years, the guaranteed future value of EE bonds provides additional protection against low rates. To double in 20 years a bond must earn at least 3.5 percent interest. Series EE bonds earning a lower rate will have an additional amount of interest credited to the bonds to bring them up to the guarantee at the 20 year point.