I Bonds Explained: How They Work and When to Buy Them

I bonds are savings bonds issued by the U.S. Treasury that pay interest based on inflation. When inflation is high, they pay a high rate. When inflation falls, the rate adjusts downward. They are one of the safest investments available and are backed by the full faith and credit of the U.S. government.

During the inflation surge of 2021-2022, I bonds briefly paid over 9% annually, which drove an enormous wave of interest from everyday savers. The rate has since come down, but I bonds remain a compelling option for a specific purpose: protecting cash savings from inflation.

How I Bond Interest Rates Work

The I bond interest rate has two components that combine to form the composite rate:

Fixed rate: Set by the Treasury when you purchase the bond and stays the same for the life of the bond (up to 30 years). This rate currently hovers near 0–1.3% depending on when you buy.
Inflation rate: Based on changes in the Consumer Price Index for All Urban Consumers (CPI-U). The Treasury updates this component every May and November. It applies for six months from your purchase date, then resets.

The composite rate is not simply the sum of the two rates — the formula is: Composite rate = fixed rate + (2 x semiannual inflation rate) + (fixed rate x semiannual inflation rate). In practice, the result is close to fixed rate + twice the semiannual CPI change.

Purchase Limits

I bonds have strict annual purchase limits:

$10,000 per person per year in electronic form through TreasuryDirect.gov
$5,000 per year in paper form using your federal tax refund (this is separate from the electronic limit)

This means a married couple can buy up to $20,000 in electronic I bonds per year ($25,000 if they each use their tax refund for paper bonds). You can also buy I bonds through a trust or business entity, each with their own $10,000 limit.

Rules and Restrictions

Before buying I bonds, understand these key rules:

One-year lockup: You cannot redeem an I bond for at least 12 months after purchase.
Three-month interest penalty: If you redeem within the first five years, you forfeit the most recent three months of interest.
After five years: You can redeem with no penalty.
Maximum holding period: I bonds earn interest for up to 30 years, then stop accruing.

How I Bond Interest Is Taxed

I bond interest is:

Subject to federal income tax, but only in the year you redeem the bond (or when it matures, whichever comes first)
Exempt from state and local income taxes
Potentially exempt from federal tax if used to pay for qualified higher education expenses (income limits apply)

The ability to defer federal taxes for up to 30 years — and the state/local tax exemption — makes I bonds more tax-efficient than a typical high-yield savings account for some savers.

How to Buy I Bonds

Electronic I bonds are purchased at TreasuryDirect.gov. The process:

Create an account at TreasuryDirect.gov (you will need your Social Security number, bank account, and email)
Link a bank account
Navigate to “BuyDirect” and select Series I Bond
Choose your purchase amount (minimum $25)

The interface is notoriously dated, but it works. Bonds are issued in electronic form and held in your TreasuryDirect account.

For paper bonds, file IRS Form 8888 with your tax return and designate part of your refund for I bond purchases.

I Bonds vs. High-Yield Savings Accounts

Both are safe places to park cash, but they serve different purposes:

High-yield savings accounts offer instant liquidity and competitive rates, but rates are variable and set by the bank. They have no purchase limits. Interest is taxable federally and at the state level annually.
I bonds are locked for one year, have purchase limits, and require a TreasuryDirect account. But they track inflation by design, carry no credit risk, and the state/local tax exemption plus federal deferral adds up over time.

For emergency funds that need instant access, a high-yield savings account wins. For cash you can set aside for at least a year and want to protect from inflation, I bonds are worth considering alongside HYSAs.

I Bonds vs. TIPS

Treasury Inflation-Protected Securities (TIPS) are another inflation-linked Treasury instrument, but they work differently. TIPS are marketable securities — their principal adjusts with inflation, and they pay a fixed coupon on that adjusted principal. You can buy and sell TIPS on the secondary market before maturity.

I bonds cannot be traded — they are non-marketable. Their value never declines in nominal terms (the composite rate can never go below 0%), whereas TIPS prices fluctuate with interest rates in the secondary market. For small investors prioritizing simplicity and principal protection, I bonds are generally easier to use than TIPS.

When I Bonds Make Sense

I bonds are a good fit when:

You want to protect savings from inflation over a 1-5 year horizon
You will not need the money for at least a year
You want Treasury-backed security with no credit risk
You are looking for a tax-efficient savings vehicle
You want to diversify beyond bank products

They are less suitable as a primary emergency fund (due to the one-year lockup) or as a core long-term investment (since equity investments have historically outperformed inflation-linked bonds over long periods).

The Bottom Line

I bonds are a conservative, government-backed savings tool designed to keep pace with inflation. Their purchase limits, one-year lockup, and TreasuryDirect-only availability make them a niche product rather than a core investment. But for savers who want a safe, inflation-protected place to park money they will not need immediately, they are one of the best options the U.S. government offers.