How Series EE Savings Bond interest rates work
Thursday, March 9th, 2006
Categorized as: Series EE US Savings Bonds • Savings Bond interest rates
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Although Series EE Savings Bonds have a reputation of being an easily understood investment, few investors actually understand how they work. In part, this is because the Treasury has regularly changed the rules for calculating EE bond interest.
Understanding rate periods
Moreover, you can't understand Savings Bond interest rate rules unless you understand Savings Bond rate periods.
Every Savings Bond has a series of six-month rate periods that begin with the month in which the bond is issued. Today's Savings Bonds pay interest for 30 years, so they have 60 rate periods.
What's confusing is that the Treasury announces new interest rates for Savings Bonds in May and November, but the announced rates don't apply to a specific Saving Bond until its next rate period begins, which is zero (for bonds purchased in May or November) to five (for bonds purchased in April or October) months later.
Series EE Savings Bonds issued since May 2005
Since May 2005, newly issued Series EE Savings Bonds have come with interest rates that are fixed for 20 years - they pay the same rate for each of their first 40 rate periods.
However, when one of these bonds reaches its 20th anniversary, the Treasury has the right to change the fixed rate for the final ten years of the bond's life.
All Series EE Savings Bonds issued during the six-month period following a May or November rate announcement pay the same fixed rate.
The Treasury also guarantees that these Series EE bonds will double in value in 20 years. This creates a guaranteed rate of 3.50% if you hold the bond that long.
Series EE Savings Bonds issued between May 1997 and April 2005
Unlike newly issued Savings Bonds, all Series EE Savings Bonds issued in April 2005 and earlier have rates that adjust every six months.
The bonds issued during this eight-year period earn an interest rate during each six-month rate period that is 90% of the average yield for five-year Treasury securities in the previous November-April or May-October period.
Savings Bonds in this group that were issued in June 2003 and later are guaranteed to double in value in 20 years (this is an implied interest rate of 3.50%); for those issued in May 2003 and earlier the guarantee is 17 years (4.12%).
Series EE Savings Bonds issued between May 1995 and April 1997
The Series EE Savings Bonds issued during this two-year period are similar to the Series EE bonds issued later, however their rate is 85% (rather than 90%) of the average yield for five-year Treasury securities.
All Savings Bonds in this group are guaranteed to double in value in 17 years.
In addition, all Savings Bonds in this and earlier groups have redemption values that increase every six months. (For Savings Bonds issued in May 1997 and later, the redemption value increases monthly.) This creates a hidden redemption penalty of lost interest if you don't redeem right after the redemption value increases.
Series E and EE Savings Bonds issued before May 1995
Both Series E and Series EE Savings Bonds issued before May 1995 have rules that are very different from Series EE bonds issued later.
Interest rates on these bonds are calculated two different ways. At redemption, the method that provides the highest return is used to calculate the value of the bond.
One method uses a feature these Savings Bonds have called guaranteed rates. But to understand guaranteed rates, first you have to understand maturity periods (not to be confused with the rate periods we discussed earlier).
A Series EE Savings Bond's first maturity period lasts as many years as it takes the investment to double in value. The length of this first period depends on when the bond was issued. The bond's guaranteed rate during this first period is the rate that will accomplish this doubling in value.
All of the Savings Bonds in this group have already doubled in value except for those issued in March 1993 and later. Those bonds are guaranteed to double in value in 18 years (which creates a guaranteed rate of 3.89%).
When the original maturity period ends, the bond enters a new 10-year maturity period. At that time the Treasury can change the bond's guaranteed rate. Since March 1993, the Treasury has set the guaranteed rate for Savings Bonds entering new maturity periods at 4.00%.
The length of a Savings Bond's final maturity period is usually less than 10 years - it depends on the length of the first maturity period.
The second method used to determine the interest rate of these bonds is based on the average of a set of market-based rates (85% of the average of 5-year Treasury marketable security yields) published by the Treasury during the life of the bond.
Consequently, the interest earned during any particular rate period depends on which of the two methods will give the bond the highest value.
- If the first method is best, the bond will earn whatever rate is required to make its value reach the guaranteed rates in effect during its life.
- If the second method is best, the bond will earn whatever rate is required to make its value reach the average of the market-based rates published during its life.
In most rate periods the bonds in this group pay the highest rates of any EE bonds.