roth ira

[Guest eric greenleaf]

I WANT TO BUY IBONDS AND PUT THEM IN A ROTH IRA. IM LOOKING TO AVOID THE TAXES LATER. IF I START A ROTH IRA WITH IBONDS AND THE FIXED RATE INCREASES WILL I BE ABLE TO SELL THE LOW FIXED RATE BONDS IN THE FUND WITHOUT PAYING TAXES AND BUY HIGHER FIXED RATE IBONDS? I UNDERSTAND I MAY HAVE TO PAY THE 3 MONTH PENALTY FEE. IS THIS A GOOD IDEA FOR A SAVINGS PLAN?

[dh003i]

I don't think that putting I-bonds inside of a Roth IRA -- or any other tax-advantaged plan -- is a good idea. I-Bonds already have a tax-deferred advantage, and you're wasting that if you place them in a Roth IRA or Traditional IRA.

Furthermore, the purpose for I-Bonds is defeated by placing them in a Roth IRA. I-Bonds are supposed to be a guarantee against inflation. If you place them in a Roth IRA, then you can only access your initial contributions. You'd probably be better off putting more aggressive, long-term investments in your Roth IRA (which is a retirement account).

Meanwhile, you can invest in I-Bonds outside of your Roth IRA. I'd suggest you consider them alongside Series EE bonds as short-term, low-risk investment vehicles. You can even use them as an alternative to placing money in a savings account, with their paltry interest rates, though you'll have to keep the money in for at least one year. By purchasing I-Bonds with a cash-back credit card, if you pay all your balances off in full each month, you can create a 0.5% - 1% discount, depending on your credit-card's cash-back options.

It is true that you will have to leave your money in I-Bonds for at least one year, and will be penalized 3 months interest if you cash them in before 5 years. If you can leave your money in there for a year, then it is probably worth it over a savings account, money-market, or CD. Even with the penalty, you will probably be better off than had you invested in a money-market or CD, depending on the interest rate on the money-market or CD. The penalty becomes less and less relevant as you approach 5 years.

Also, you should consider that there are additional tax-benefits (0% income tax) you may qualify for if you use I-Bonds for qualified higher education.

If you're looking at an I-Bond, you should also seriously consider Series EE bonds. Depending on how severe inflation is, Series EE Bonds can be better options than I-Bonds...because you can cash both of them in after a year at face-value (minus 3 months of interest if before 5 years), you can switch from one to another if one obtains a significant advantage over the other.

You may find the following links helpful:

• 
  
• Official Series EE bonds page
  
• Official Series HH bonds page
  

As you can see, at this time, I-Bonds (4.66%) are a better deal than Series EE bonds (2.66%).

[John G]

Eric, you are missing some knowledge about how Roth IRAs work. You do not pay any tax on normal distributions under the current rules. None. It may be a question of semantics, but you buy investments within an Roth, you can't buy an investment and then add it to a Roth.

You would not want to hold any tax shelter investment within a tax shelter because the returns would be lower than you could obtain with a normal investment.... you can't benefit from tax avoidance because you have no tax to begin with, but you give away annual return (which is always lower on a tax preference investment). You would not want to buy tax free muni bonds within a Roth for example.

You did not indicate your age, investment knowledge/experience, time to retirement and your financial goals, so giving you advice involves some guessing. If you post again with a little more background I will try to give you some pointers.

All that said, I would not recommend Ibonds for an IRA. They are a very conservative investment and are unlikely to give a high enough yield to meet your goals. If you are not inclined to own stocks, or even hold a balanced portfolio of stocks and bonds, then you should be looking at just standard bonds with a mix of holding periods.