The majority of people associate tax shelters with extremely wealthy taxpayers because they think they are expensive and complicated strategies to cut tax bills. What they do not know is that United States savings bonds are easy to understand and simple investments that have attractive tax attributes and can produce savings on your tax return.
Many people use retirement accounts such as 401(k)s to avoid paying capital gains and taxes until they need to use the money during retirement. With savings bonds, you can get the same tax deferral as these retirement accounts even before retirement. This makes them much different from more conventional investments.
Normally, the IRS requires taxes to be paid on any interest income received from an interest-bearing asset. There are even some cases where you have to pay taxes on the interest that you do not receive such as with inflation-protected bonds or zero-coupon Treasury bonds.
With savings bonds, you do not have to pay taxes on the interest until you cash the bond in. The maximum, maturity period for savings bonds is 30 years. You can defer taxes on the interest for decades.
After you cash in your savings bond, you will generally be required to pay federal income tax on the accrued interest. You do not have to pay state income tax on U.S. savings bonds and other United States government obligations because they are tax-free at the state level. Most other investments are subject to state income tax-reducing the amount of your return after tax.
Another benefit of U.S. savings bonds is you might be able to exclude federal taxes on the interest income if you use the interest from your savings bonds for qualified expenses for education. This means you could effectively pay no tax. In order to qualify, you must be at least 24 years old when the savings bond was issued, you must pay educational tuition and fees for a dependent, a spouse or yourself and your total income must be below the limit. In 2013, this benefit starts to phase out when income is above $74,700 for single filers and $112,050 for those married filing jointly. The benefit completely disappears at $89,700 for single filers and $142,050 for those married filing jointly.
Currently, U.S. savings bonds have low-interest rates and the amount of income you can get is limited. Series I savings bonds are a low-risk investment that helps to protect your savings from inflation by earning interest based on a fixed rate and an inflation rate. Currently, series I bonds are paying .2 percentage points above inflation which equals about 1.38% for the first 6 months. The interest rate changes 2 times a year. Series EE savings bonds pay .1%.
Nevertheless, U.S. saving bonds are still worth considering. You can find out more information on the U.S. Treasury’s website – www.savingsbonds.gov.