series ees and savings bonds as gifts

In short

A friend of mine once handed his niece an envelope at her graduation, and inside was a savings bond. She looked at it kindly, then asked what it was for. If you are thinking of giving one, you have probably wondered the same thing. Series EE and Series I savings bonds are loans to the federal government that pay interest over time. Today they are bought electronically through TreasuryDirect, the Treasury's own website, and the buyer can send one to someone else as a gift. A gift bond has to sit in the giver's account until a separate gift step is done, so plan a few days. The yearly purchase limit is the current figure, which the official source publishes each year per person, per bond type. Interest is taxed by the federal government when the bond is cashed or reaches final maturity, though state and local tax does not apply. Cashing a bond before five years costs the last three months of interest, and no bond can be cashed in the first year.

The whole of it

What it is

I once watched a grandfather explain a savings bond to a ten year old as a promise with a ribbon on it. He was close. A savings bond is a promise from the United States Treasury to pay back your money with interest. If you are holding the idea of giving one, you are really giving a slow, steady kind of savings.

There are two kinds you can still buy. Series EE bonds earn a fixed rate that the Treasury sets when the bond is issued, and TreasuryDirect says a Series EE bond reaches double its purchase price at twenty years. Series I bonds earn a rate made of two parts. One part is fixed for the life of the bond. The other part moves with inflation and is reset twice a year. Both kinds earn interest for up to thirty years.

Paper bonds were once sold at banks. That ended. Today the main way to give one is electronic, through a TreasuryDirect account. The Treasury also lets people use part of a federal tax refund to buy paper Series I bonds, and the IRS explains that on its Form 8888 page.

How it works

A friend of mine tried this last winter, and the one thing that surprised him was the waiting. He bought a bond for his nephew, then found it sat in his own account. That is how it works. The buyer purchases the bond into his or her own TreasuryDirect account first. Then the buyer uses the gift tool to send it to the recipient's account. The recipient must already have a TreasuryDirect account, and the buyer needs the recipient's account number to finish the gift.

For a child, a parent or guardian can open a minor linked account. The adult controls it until the child turns eighteen.

Now the buying limits. Each person may buy up to the current figure, which the official source publishes each year of each type in a calendar year. That limit applies to the buyer, so a gift bought by one person counts against the buyer's own limit for that year. A giver who buys bonds for himself and then for a grandchild can run into that ceiling.

Interest builds up month after month. It is not paid out as cash along the way. It is added to the bond's value. You see the money when the bond is cashed or when it stops earning interest at year thirty.

The numbers, and where to find yours

If you are giving a bond, a few numbers will shape your choice. The current rates are set by the Treasury and change over time, so the rates are written as the current figure, which the official source publishes each year for Series EE and the current figure, which the official source publishes each year for Series I. The site fills in the verified figure with its source and date. Do not trust a number someone tells you at a party. Look at the official page.

The purchase limit is the current figure, which the official source publishes each year per person per year for each type. The earliest a bond can be cashed is twelve months after issue. If it is cashed before five years, the Treasury takes away the last three months of interest. Those timing rules come from TreasuryDirect, and the page for each bond type lists them.

To find the rates, go to the TreasuryDirect website and look under the savings bond section. To find the tax treatment, read IRS Publication 550, Investment Income and Expenses, which covers savings bond interest. To see how gift tax works, read the instructions for IRS Form 709. The annual gift tax exclusion is the current figure, which the official source publishes each year, and gifts under that amount to one person in one year usually need no gift tax return. That is what the IRS instructions say.

A worked example

Let me tell you about a woman named Maria. She is a nurse who earns $52,000 a year, and her granddaughter Lucy is five. Maria wants to start Lucy a small savings pot for college.

Maria opens a minor linked TreasuryDirect account for Lucy. She buys a Series EE bond for $500. Say, for easy math, that the bond ends up earning interest that lets it reach $1,000 by year twenty. That doubling matches what TreasuryDirect says about a Series EE bond held twenty years. Maria then sends the bond to Lucy's account with the gift tool.

Now the tax picture. The gift of $500 is far below the annual gift tax exclusion, so Maria files no gift tax return for it. Lucy owes no federal tax on the interest until the bond is cashed or matures. At year twenty, the bond is worth $1,000. The interest is $1,000 minus $500, which is $500.

If Lucy cashes it at twenty five, and the interest counts as her taxable income, the tax depends on her income that year. Suppose her tax rate on that interest is 12 percent. Then $500 times 0.12 is $60 in federal tax. She keeps $1,000 minus $60, which is $940. That rate is only an example. Her real rate comes from her own return.

There is one more thing Maria might consider. If the bond is cashed to pay for qualified college costs, some of the interest may be left out of income, depending on income limits. That rule is on IRS Form 8815, and the limits change by year, so they are written as the current figure, which the official source publishes each year. Always check the form for the current year.

Where it goes wrong

I have seen good people trip on small things, so let me name them kindly. The first is the gift step. A bond bought for someone is not theirs until it is moved. A giver who forgets can leave the bond sitting in his own account for months.

The second is cashing early. Cashing before five years costs the last three months of interest. That is a real loss, and it is easy to avoid by planning.

The third is the tax surprise. Interest is taxed, just later. Some families expect the child to owe nothing and are caught off guard. The child may owe tax, or a parent may, depending on who reports the interest and how the return is filed.

The fourth is the kiddie tax. Under the rules the IRS explains on Form 8615, a child's unearned income above a set amount can be taxed at the parent's rate. That threshold is the current figure, which the official source publishes each year. A large bond gift can bring this into play.

The fifth is losing track of the account. A TreasuryDirect login that nobody remembers is a real problem. Write the account number and the recovery details somewhere safe.

Questions to answer before you leave this page

Do you know whether the person you want to give to already has a TreasuryDirect account, and do you have the account number? Have you checked the current rates on the official TreasuryDirect page so you are not guessing? Does the amount you plan to give stay under both the purchase limit and the gift tax exclusion for this year? Will the money need to be touched in less than five years, and if so, are you at peace with losing three months of interest? Have you thought about who will report the interest on a tax return, and whether the kiddie tax might apply? And last, have you told the person you are giving to how the bond works, so the gift feels like a gift and not a puzzle?