If you have established a habit of saving and have built up a decent amount of cash, you may start to wonder if there is a way to hold your savings somewhere that won’t leave you exposed to inflation. There are those who advise you to invest that money, but that’s not really a good idea. This is the money you intend to use when the unexpected happens. This means that it can’t be locked up in an investment. It has to be accessible immediately. Wouldn’t it be nice if there was an investment that would allow your emergency savings to grow with inflation, but still allow you access that money during an emergency? It takes a little planning and patience, but there is a way.
Beneficial Features of I Bonds
If you are a “United States person,” you can put your emergency savings in I Bonds. United States Series I Savings Bonds have some unique features that make them especially attractive for this purpose:
- I Bond interest is linked to inflation
- They can be purchased online
- They can be purchased in small or larger amounts
- They can be sold anytime after a one year period
- They keep earning interest for up to 30 years
- Interest is state-tax free
- Interest is federal tax deferred
This means that if you start moving a small portion of your emergency savings into I Bonds each year, you could eventually have it all moved over. Once your entire reserve is in I Bonds, and a year has passed since the final purchase, you can take that money out if you ever have an emergency. If you don’t it will earn interested at whatever rate necessary to keep up with inflation.
How to Do It
Here’s a scenario that you might adapt to your own situation. Let’s say that you have a $3000 emergency fund sitting in a money market account at the bank.
First of all, you need to open your account with the United States Treasury. I have step-by-step instructions on how to do that here.
Then, I would suggest that you save an extra $300. You would now have $3,300 in emergency savings. That’s $300 too much. Take that extra $300 and buy an I Bond.
After a year passes, that bond will be available as emergency savings only it is now probably worth more than $300 because of the inflation adjustments. Now you are $300 too high in your emergency savings fund again. This time take $300 out of your money market account and buy an I bond. Wait for another year. Now you have over $600 in I bonds and $2,700 in your money market account. Keep moving $300 each year until all of your emergency savings is in I Bonds.
The Tax Advantages
One of the great things about doing this is that, unlike a money market account, you are not taxed at the local level, and all of your federal taxes are deferred. You only pay taxes on a savings bond when you cash it out. This is especially attractive when you find yourself in an emergency.
If your emergency happens to be the loss of a job and you are forced to cash some I Bonds, you will probably be doing it at a lower tax rate. This may also true if you end up needing it while you are retired. It’s actually better from a tax point-of-view to take money out of I Bonds when you have less income.
If you have a lot of emergency savings, make sure that you don’t attempt to buy more I bonds than you are allowed to buy. Each person with a Social Security Number is allowed to buy up to $10,000 in I Bonds per year. If there are two of you, you can both buy $10,000 as long as you both have an account set up. You can learn more about these bonds in my article: I Just Want to Save My Money.
Another thing to understand, is that if you are forced to sell an I Bond between the second and fifth year after your purchase, you will lose two months of interest when you sell it. Since you were already losing this money in your money market account, it’s not a big price to pay for protection. You still get all of your original principal back. After 5 years, all of the interest is yours, no matter when you cash out.
The Next Step
Since you have already proven that you have the discipline to save, you might as well take the next step and start the process of inflation protecting your emergency savings.