Patriotism has been on the upswing in recent years. If your feelings about this country have strengthened as we've banded together in the wake of terrorism and war, you may want to consider purchasing Patriot Bonds to help finance either U.S. military might or reconstruction at home. The federal government will, as always, happily take your money. But deciding to purchase Patriot Bonds should be no different than deciding to purchase regular Series EE Bonds, since they're the same investment.
Patriot Bonds are no more than Series EE Bonds with a new name. The Patriot Bond legend was inscribed on Series EE Bonds beginning December 11, 2001, and will continue indefinitely. The money invested in Patriot Bonds will not be earmarked to pay for the "war on terrorism" in particular. As with the proceeds from the sale of all Treasury securities, money invested in Patriot Bonds will be deposited in the general fund and spent according to law -- which funds anything the federal government requires money for.
Just like the Series EE Bonds, Patriot Bonds earn 90 percent of market yields on five-year Treasury Securities. Bonds increase in value every month, and interest is compounded semi-annually. You can cash your bond after six months, but bonds cashed before they are five years old are subject to a three-month interest penalty. Denominations range from $50 to $10,000, and the cost of purchase is one-half the face amount. (In other words, you'll pay $25 for a $50 Patriot Bond.) You can buy bonds from virtually any financial institution or online via Savingsbonds.gov.
When determining whether to buy a savings bond or not, also consider I-bonds or Treasury Inflation Protected Securities (TIPS), both of which are designed to keep pace with inflation. That's achieved through indexing the interest payments to the Consumer Price Index, a proxy for the inflation rate. These bonds are sold at face value (so, unlike a Patriot Bond, you'll pay $100 for a $100 I-bond). Indexing the bonds to inflation means that you'll receive enough in interest payments to make sure that when you get your $100 back at the bond's maturity, it will have the same purchasing power as it did when you invested it.
All U.S. savings bonds are exempt from state and local income taxes. You won't owe any federal income tax on the interest until you redeem your bond (or once the bond reaches its 30-year maturity). With TIPS, though, you'll owe federal income tax on both the interest payments as well as the inflation-adjusted amount.
But there's a way of avoiding federal tax as well: If you use the bonds to pay for college expenses for you, your spouse, or your child, the interest is free from federal taxes.
To qualify for this tax break, though, the bonds must be purchased in the parent's name (assuming the parent is at least 24 years old), not the child's. And there are income limits: In order to get the full exclusion, your adjusted gross income must be less than $86,400 in 2002 for married couples. You'll need to file Form 8815 (Exclusion from Interest from Series EE and I U.S. Savings Bonds Issued After 1989) with your tax return to claim the write-off.
But because the timeline on the bonds' maturity is so long, savings bonds shouldn't make up a large portion of your college savings fund. Even if you opt for inflation-protected securities, they won't keep up with rising college costs, which often far outpace inflation. Over time, stocks and bonds will far outperform these investments.