Here’s how to fight rising inflation with your tax refund
Items for sale at a supermarket in Washington, DC on January 12, 2022.
Stefani Reynolds | AFP | Getty Images
If you’re concerned about skyrocketing costs, you might consider using your tax refund to circumvent purchase limits on I bonds, an almost risk-free, inflation-protected asset.
Annual inflation rose 7.5% in January, rising at the fastest pace since February 1982, according to the US Department of Labor, affecting everyday expenses like energy, food, housing and more.
Some investors have turned to I bonds, paying an annual rate of 7.12% until April, to preserve their purchasing power, according to financial experts.
“The rate is mind-blowing for a government-backed asset,” said certified financial planner Leslie Beck, owner of Compass Wealth Management in Rutherford, New Jersey.
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Although Treasury Inflation-Protected Securities, or TIPS, also adjust for inflation, values fall as interest rates rise, Beck said, while I bonds protect your capital.
While there’s usually an individual purchase limit of $10,000 per calendar year, there are ways to get more, like using up to $5,000 of your tax refund to buy paper I bonds. .
You can request to receive all or part of your refund in the form of Paper I Bonds by completing Part 2 of Form 8888 with your return. But your deposit must be error-free to receive the assets.
“What I really like about this program is that it allows people to use their tax refund to build wealth,” said Eric Walters, CFP, managing partner and co-founder of Summit Hill Wealth. Management in Greenwood Village, Colorado.
Many taxpayers view refunds as “free money” and embezzlement can be a unique way to buy more than the usual I bond purchase limits, he said.
It’s also a chance to save a little more for college since earnings are not taxable if used for qualifying education expenses.
Disadvantages of Bonds I
While it’s easy to see the appeal of I bonds, there are some key downsides to consider before piling on one, experts say.
Yields on I bonds have two legs: a fixed rate and a floating rate, adjusted every six months by the consumer price index. This means that you can get a rate of 7.12% until April 2022, but it can change in May, depending on inflation. This graph shows the history of the two rates.
“These things are floating rate notes with a base rate of zero,” Beck said. “So you could be stuck with a 0% return for a long time if inflation goes back to what it was for the last 10 years.”
Another downside is that you can’t redeem I bonds for at least a year, making them unsuitable for an emergency fund you need for short-term expenses. And you’ll pay the last three months of interest if you redeem I bonds within five years.
In addition, owning paper I bonds has drawbacks, such as the risk of loss, theft or damage. “You tend to put them away and forget you have them,” Beck said.
You can replace missing I-bonds or convert paper bonds to electronic bonds via TreasuryDirect. However, each process has a few steps, which makes it less convenient than the assets of a regular brokerage account.