How do Savings Bonds Work

Saving is something we’re taught to do from a very young age. Save that candy for dessert. Save that for tomorrow. Save some of your money. In the world of personal finance, if you have money to save institutions are going to want it.

Throughout time there have always been a few tried and true methods of saving. One of them is the good old savings account. You can open this at any local bank or credit union. The second way of saving is by utilizing a savings bond. Yes, those pieces of paper your grandparents likely gave you for a birthday some time ago.

Those physical savings bonds are becoming less and less frequent as the purchasing process has moved online. 

Now, you may be wondering how a savings bond works. It is extremely simple and we’ll illustrate it through an example story.

Let us say for your birthday you receive a $100 savings bond. That’s great! Now, you must look at the interest being earned. We’ll say this savings bond earns 5% annual interest. That means every year, this savings bond earns $5 and at the end of year 1, you’ll have a savings bond worth $105.

The catch is you must hold this bond for at least 5 years to avoid any loss of interest. However, the benefit is your interest continues growing and once you pass the 5-year mark, you are free to cash out the bond for its face value, plus interest.

Are you a power saver?

If you’re a power saver, then you can hold this savings bond up to 30-years. That may seem like a lot of money, but you’ll have to take into account what you’re earning and compare it to current market rates.

While these are straight forward products there are drawbacks to consider before investing.

The first is their current rate of return. With rates at zero, these are only earning a few basis points. That doesn’t come near keeping up with inflation, meaning you’ll end up losing money in the long run.

Secondly, there are not liquid, meaning you can’t gain access to your money right away. If you need the money, you will need to redeem the bond and wait for your funds to be transferred. Keep in mind if you are under the 5-year mark, you will likely be penalized for early withdrawal. 

If you are simply looking to put your money to work, you can alternatively look at high-yield savings accounts. There are some companies offering over 1% in this low rate environment. The catch is many of these banks offering over 1% are strictly online banks, meaning you won’t be able to walk into a branch and withdraw your fund.

Saving is important and savings bonds are one tool you can use to save your hard-earned dollar. You can visit the Treasury’s website and see the various types and products. Once you open your online account you can begin purchasing savings bonds.