Roanoke Times
Copyright (c) 1995, Landmark Communications, Inc.
DATE: MONDAY, May 1, 1995 TAG: 9505050015
SECTION: MONEY PAGE: 6 EDITION: METRO
SOURCE: MAG POFF STAFF WRITER
DATELINE: LENGTH: Long
The government has put into effect today some major changes related to the way investors will earn interest on savings bonds that we purchase in the future.
The changes are designed to make the program simpler and easier to understand, according to the Treasury Department.
Including them as part of the General Agreement on Tariffs and Trade, however, Congress enacted the provisions last December designed to offset the loss in tariff revenue expected under GATT. Congress obviously expected the changes to be money-savers for the government.
This doesn't necessarily make buying savings bonds a bad investment. For both financial return and relative lack of risk, there are still some significant advantages to putting money in savings bonds.
They still are sold in small amounts, as little as $25, and both principal and interest are backed by the full faith and credit of the United States. Taxes are deferred on the accumulation of interest until the bonds are cashed in, and they are not subject to state taxes.
It is even possible to defer further taxes on the interest earnings at maturity by rolling over the Series EE Bonds into Series HH Bonds, then paying taxes only on the interest as it is paid out.
And bonds can be cashed in tax-free if they are used by parents to pay certain expenses related to their children's higher education.
Clarence Stone, operations manager for savings bonds at the Federal Reserve Bank in Richmond, said that "at this time, we are not anticipating any changes at all" in the number of bonds sold. He noted that sales have been "stable" for a long period.
Based on inquiries to banks, he said, "there does not seem to be any reaction at all to the changes."
But three major changes make bonds purchased starting today less attractive than the bonds we hold from the past - at least potentially so. Here's why::
Congress required the Treasury Department to eliminate the minimum guarantee on the interest rate paid for Series EE bonds.
The market interest paid for bonds will be based on a lower index than in the past, and the higher market rate will no longer be retroactive for the first five years.
Interest will be credited to the bonds once every six months instead of monthly.
The changes do not affect bonds purchased prior to today, which continue under the terms of issue. Nor is there any impact on Series HH bonds.
Bonds sold in the past had a minimum guarantee for the interest rate they earned. The minimum changed with the rise and fall of the interest rate market, but most recently the guarantee was 4 percent. That bettered the rates many banks paid on certificates of deposit.
The interest on bonds purchased from now on will always float with the market.
Right now, that doesn't matter very much. The most recent yield for Series EE bonds, a rate that expired Sunday, was 5.92 percent.
The rate will change today and can be determined by calling toll-free to (800) 487-2663. Stone said, however, that the rate is unlikely to change very much and should not fall below the old guarantee of 4 percent.
Series EE bonds purchased in the past and held at least five years earn either 85 percent of the yield on five-year Treasury securities or the 4 percent guaranteed return, whichever is higher. That rate is adjusted each May 1 and Nov.1.
If you cashed in the bond earlier than five years, the yield would be less, through no less than the 4 percent.
The new formula for the short-term rate is based on 85 percent of the six-month Treasury yield, which usually is less than the long-term securities. This will be announced as the short-term savings bond rates paid for the first five years.
For Series EE bonds held from five through 17 years, the long-term rate is 85 percent of the average of five-year Treasury security yields. That's the old rate, but it will begin in the sixth year the bonds are held.
The government said this change "makes it easy for investors to know exactly what rate their bonds will earn during the interest period." But the figure often may be lower than in the past.
Until now, people who cashed in their bonds received full interest for the month, regardless of when during the month the bonds were turned in. Interest was credited every month.
Starting with today's bonds, interest will be credited every six months. If you cash out before the six months is up, you will forfeit all interest earned during that period. Stone said it will be important to watch the anniversary dates of the bonds to be sure of gaining the maximum interest.
Savings bonds still will be sold for a price of half their face value or denomination. Because bonds earn market rates, it is not possible to state when a bond will reach face value.
The Treasury Department said a bond earning an average of 5 percent will slightly more than double in value in 141/2 years.
If the market rates are not sufficient for a bond to reach face value in 17 years, however, the Treasury will make a one-time adjustment to increase it to face value at that time. That implies a minimum rate of return of just over 4 percent if a bond is held for the full 17 years.
Series EE bonds will continue to earn interest after 17 years at the rate structure then in effect for a total interest-earning life of 30 years.
Should you still buy bonds?
The Institute of Certified Financial Planners said many planning professionals recommend other, higher-returning investments for longer-term goals such as retirement and college. The average return on stocks, for example, well outdistances the return of bonds over the long haul.
But the institute pointed out that bonds give investors some benefits in addition to tax advantages.
Bonds can add diversification to your investment portfolio.
They come in small amounts, such as a $25 bond that pays you back $50 in 18 years or sooner. EE bonds make great gifts for kids.
They are easy to buy at any bank, and there is no commission or other type of fee.
They are risk-free and can serve as a forced savings program.
by CNB