4 ms·

When i-bonds have a fixed rate of zero they are guaranteed to under-perform inflation since you still must pay federal income tax (not even LTCG) on their incre

by nullc 5y ago

When i-bonds have a fixed rate of zero they are guaranteed to under-perform inflation since you still must pay federal income tax (not even LTCG) on their increase in nominal value. An i-bond needs to have a fixed rate of at least 0.27% to cover the interest on the 2% target rate of inflation, assuming a 12% income tax rate. If inflation was sustained at 9% the i-bond fixed rate would need to be 1.2% to make it not lose value. I-bond is an interestingly alternative when you'd otherwise just hold cash, but with the fixed rate of 0 it's not that exciting. Other than cash few other investments are guaranteed to lose money relative to inflation. I would avoid buying I-bonds with a fixed rate under 0.5% and certainly under 0.2%. ... and that's entirely without getting into the argument that the government systematically underestimates inflation e.g. by CPI-U having an open-loop correction for substitution.

mint2 5y ago
Its interesting when it’s the best of the bad options for a cash reserve. CDs, tbills, etc all are worse.
tbirdz 5y ago
It's worth noting that I bonds are exempt from state income tax, and you pay federal income tax at the time you redeem the bond, not at the time you get interest, so it's federal income tax deferred. You could potentially hold onto the I bond for up to 30 years before being forced to redeem, so you could wait until you're in a lower tax bracket, which makes it better.
- nullc 5y ago
  Indeed. But consider: except for very high income households, the LTCG tax rate is never more than 15%-- and federal income tax brackets don't go lower than 10% and even just social security payments will move people into 12%. Many ibond alternatives yield qualified dividends (=LTCG rates). For anyone with income under 41k (81k married) long term the LTCG rate is 0. A rate of 0 is wayyy better than a rate of 12% but deferred. State taxes are a bigger difference but really just for the few states that have higher income tax rates... and even those they're only really high for high incomes.
culopatin 5y ago
What would you do with 10k instead?
- nullc 5y ago
  Depends on your needs. In my case, I already own a significant amount of ibonds at the 0.5% (or higher) base rate and aren't in need of additional cash-like investments. We should expect the dollar denominated value of non-cash-heavy investments to have its returns increase by inflation. So if someone is looking at 9% ibonds and mentally comparing it 12% equities and thinking the ibonds sound amazing-- thats the wrong analysis. Instead they should back out inflation on both sides of that comparison and be comparing slightly negative yield ibonds to 10% equities yields. So essentially one should only own ibonds to the extent that one's portfolio needs something cashlike to improve its sharpe... and IMO one should try to load up on their ibonds when they're at a higher base rate. (How high? I dunno, but 0% is not high)
  - culopatin 5y ago
    Someone considering iBonds has 10k sitting idling and wants that to either hold most of its value, or gain value. They are willing to not touch it for at least a year and also don’t want to lose more money than what you lose with the iBonds. With a volatile market like the one today, what is a safer bet? iBonds, or gambling it at the market?

by nullc 5y ago

mint2 5y ago

Its interesting when it’s the best of the bad options for a cash reserve. CDs, tbills, etc all are worse.

tbirdz 5y ago

It's worth noting that I bonds are exempt from state income tax, and you pay federal income tax at the time you redeem the bond, not at the time you get interest, so it's federal income tax deferred. You could potentially hold onto the I bond for up to 30 years before being forced to redeem, so you could wait until you're in a lower tax bracket, which makes it better.

nullc 5y ago
Indeed. But consider: except for very high income households, the LTCG tax rate is never more than 15%-- and federal income tax brackets don't go lower than 10% and even just social security payments will move people into 12%. Many ibond alternatives yield qualified dividends (=LTCG rates). For anyone with income under 41k (81k married) long term the LTCG rate is 0. A rate of 0 is wayyy better than a rate of 12% but deferred. State taxes are a bigger difference but really just for the few states that have higher income tax rates... and even those they're only really high for high incomes.

culopatin 5y ago

What would you do with 10k instead?

nullc 5y ago
Depends on your needs. In my case, I already own a significant amount of ibonds at the 0.5% (or higher) base rate and aren't in need of additional cash-like investments. We should expect the dollar denominated value of non-cash-heavy investments to have its returns increase by inflation. So if someone is looking at 9% ibonds and mentally comparing it 12% equities and thinking the ibonds sound amazing-- thats the wrong analysis. Instead they should back out inflation on both sides of that comparison and be comparing slightly negative yield ibonds to 10% equities yields. So essentially one should only own ibonds to the extent that one's portfolio needs something cashlike to improve its sharpe... and IMO one should try to load up on their ibonds when they're at a higher base rate. (How high? I dunno, but 0% is not high)
- culopatin 5y ago
  Someone considering iBonds has 10k sitting idling and wants that to either hold most of its value, or gain value. They are willing to not touch it for at least a year and also don’t want to lose more money than what you lose with the iBonds. With a volatile market like the one today, what is a safer bet? iBonds, or gambling it at the market?