Treasury iBonds grew quite popular after inflation in the US spiked a few years ago. These bonds pay interest at rates approximating the Consumer Price Index, so high single-digit returns were not unusual. But rates have since declined, and investors may want to move on to greener pastures.
Redeeming US Treasury iBonds, especially if you are seeking to maximize returns, involves careful timing and a knowledge of the rules. Here’s a helpful guide:
- Hold for at Least 1 Year
- iBonds cannot be redeemed before 12 months from the date of purchase.
- Exception: There are emergency federal provisions, but in most cases, you must wait a year.
- Avoid the 3-Month interest penalty
- If you redeem within five years, you forfeit the last three months’ interest.
- To minimize the penalty, plan redemption timing so that the three months lost are at a lower interest rate, by waiting until your rate declines (see #4).
- Maximize final interest crediting
- Interest is credited monthly but paid when you redeem.
- Redeem shortly after the interest is credited for a month:
- Best day to redeem: Early in the month, right after crediting occurs for the previous month
- If you must redeem within five years, understand rate change timing
- Since iBond rates adjust every six months based on your bond’s issue date, check for that date and current rates.
- Strategy: Wait at least three months into a lower rate period: You’ll then forfeit only lower-rate months when incurring the penalty, locking in all of the higher-rate months.
- Use tools like EyeBonds.info or TreasuryDirect’s calculator to model forward-looking scenarios based on variable rates.
- Use the right redemption channel
- Electronic bonds: Redeem directly via your TreasuryDirect account; funds are typically credited in 1–2 business days.
- Paper bonds: Can be cashed at most local banks or credit unions (check current policies) for faster access. You do not need to convert paper bonds to electronic format to redeem.
- For complex requests (trust, estate, etc.), or if your bank can’t process, use FS Form 1522 and mail to the indicated Treasury address.
- Tax Considerations
- Interest from iBonds is subject to federal income tax but exempt from state and local taxes.
- You can defer taxes until redemption, but must report all interest in the year you cash the bond or at final maturity (30 years).
- If you are redeeming to use the proceeds for qualified education expenses, some or all interest may be tax-free.
Example
Suppose your bond’s high rate period ends April 2025 and a new, lower rate applies starting May 2025. Redeem in August 2025: the penalty forfeits May–July’s lower-rate months, while all higher-rate interest is secured.
Summary:
- Wait one year after issuance, ideally five, for no penalty
- Redeem after at least 3 months in a lower rate period if you are in a penalty period
- Do it early in the month
- Use correct redemption channel
- Track and plan for taxes