Have you ever thought about the money in your savings account becoming worth less over time? Aren’t savings accounts supposed to grow?
If the interest rate is less than the rate of inflation, then you are actually losing money, well, purchasing power, because your money isn’t growing as fast as inflation.
A few months ago we asked for your advice about where to keep our $25,000 emergency fund so that it didn’t lose money as inflation picked up. If you don’t want to read the post and responses, here’s the summary.
Premise: We were then earning 1.0% in a savings account. We were thinking about moving it into a money market account to earn 1.6%, but that was still a percent under projected inflation.
Responses: There were much better places to put the money. Thanks for your help!
Results: Here’s what we did with our $25,000 emergency fund.
|$10,000||Capital One 360 money market account||2.0%|
|$5,000||Capital One 360 CD (12-month term, ends July)||2.3%|
|$10,000||Treasury Direct I-Bonds||2.83%|
The first tier of $10,000 is in a money market account, available for withdrawal immediately with no penalty. That’s the little “uh-oh” money.
The second tier of $5,000 earns 2.3%. That was the rate when we opened it, but if we opened it today it would be earning 2.7% instead. That’s fine. When we renew in July, it will be at the then-current rate, which might be higher still, or might not.
There is an early withdrawal penalty here. If we break this open before its maturity date, we would lose 3 months of interest, about $30. If we were doing that, it means we already blew through all our built-in reserves and our first $10,000 of emergency fund, so it would be a real emergency, and the $30 would be a small price to pay for the cash. The additional interest in all those years where we don’t have a real emergency probably makes up for that minimal risk.
The third tier of $10,000 is the most interesting. In his response, Mike B. suggested Series I Savings Bonds (I-Bonds) as an inflation-protected emergency fund vehicle. If I had ever heard of I-Bonds, it was before we had any money to buy them with, so this was a new idea, and one I think worth passing on.
An I-Bond is sold directly by the U.S. Treasury and earns interest at a blended rate. One component of the rate is the current inflation as measured by the CPI-U. The second component is a fixed percentage above the rate of inflation. The inflation component is measured every six months, so the earned rate can go up or down. Our I-Bonds earn 0.5% above the rate of inflation for a current earned rate of 2.83%. They can keep earning 0.5% above inflation for up to 30 years, making them an easy place to drop and leave emergency-fund money.
There is both a lock-in period and an early withdrawal penalty for I-Bonds. You can’t cash them in at all during the first year, and you pay a 3-month interest penalty for cashing them in during the first five years. We’re expecting not to ever dip into this tier, but if we do, we’re in some sort of financial catastrophe and the penalty will be small in comparison. If you’ve never thought of I-Bonds, think of them now. 2.83% is better than inflation, and a whole lot better than the <1% you would still earn in most savings accounts.
And that’s what we’re doing with our emergency fund. In its current configuration it should at least keep up with inflation rather than losing value every year. Thanks to each of you who responded to the original question! We hope the answers are helpful for the rest of you!
Have you heard of or purchased I-bonds?
How are you fighting inflation on the money you have saved?