Friday, September 09, 2011

Savings Bonds Explained

When putting money aside for a rainy day, it is all too easy just to open a savings account and reap the meager returns that are offered.

However, there are other savings vehicles suitable for those who want to invest their cash for the medium to long term but who do not want to risk losing their capital.

One of the most secure forms of investment are the savings bonds issued by the government, which are available to purchase either as a savings asset or as a gift for another person.

Savings bonds are provided by the federal government and act as a way for the US to fund the debts it holds by borrowing money from the American public.

There are various type of investments available including fixed rate bonds as well as those offering a variable rate.

The main types on offer are I and EE bonds that rack up interest during the term of the investment. These do not become payable until maturity.

The fixed rate bonds available are primarily the I bonds that provide a pre-agreed interest payment plus an additional amount set at a level in excess of inflation. EE bonds can be fixed rate bonds but are also available as a variable investment.

Bonds can be purchased either via banks or online. Bonds purchased via banks are only available in paper form while online banking offers an electronic option.

Electronic bonds are far more flexible and are available in any denomination of $25. Paper savings bonds are slightly more fixed and offer the option to purchase $50, $75, $100, $200, $500, $1,000, $5,000 or $10,000.

Electronic and paper bonds work in two different ways. Electronic bonds begin to earn interest immediately and start at the worth of their face value. Paper bonds, on the other hand, start off with a value worth half of their face value and reach maturity when the interest payments bring the value up to their stated amount.

Electronic savings bonds also have another very unusual feature. Despite having a maturity date, they can go on earning interest for up to 30 years.

Owners of the bonds are able to use the Treasury Direct website to track the value of their investment and see when their bond will stop earning interest.

As well as being a safe haven in difficult economic times, because of the protection of the federal government, savings bonds also have other benefits.

The interest on the various types of bonds can be deferred until the maturity date or earlier encashment, at which point it is not subject to state tax, unlike other savings accounts.

While savings bonds undoubtedly offer investors significant benefits, if they are cashed in before they have been invested for five years a sacrifice equivalent to three months of interest will be made.

In addition, as a fixed rate bond locks in the interest payable, if the economic outlook changes during the investment period and interest rates rise, the bond can become less competitive.

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