I bonds are a type of savings bond issued by the U.S. Department of the Treasury to pay for the U.S. government’s borrowing needs. Saving bonds are considered one of the safest investments because they are backed by the full faith and credit of the U.S. government. I Bonds are a low-risk, liquid savings product. They earn interest and protect against inflation.
The interest you earn on an I Series Savings Bond is made up of two components, a fixed rate component and a floating rate component. The fixed rate component of an i bond is meant to represent the real level of interest rates. This is the interest rate that you earn not accounting for inflation. The fixed rate component is set when you buy the bond and remains the same for the life of the bond. The floating rate component is designed to change with inflation and is therefore reset every 6 months.
You are not allowed to cash in a savings bond until you have held it for 1 year. After you have held a savings bond for 1 year, you can cash it in at anytime. However, if you cash a savings bond in before you have held it for 5 years, then you must pay a penalty of 3 months worth of interest. Once you have held a savings bond for 5 years you can cash it in at anytime without penalty through TreasuryDirect.
I Series Savings bonds and Treasury Inflation Protected Securities (TIPS) work in much the same way. Both have a fixed rate which is meant to represent real interest rates, and a floating rate that is meant to protect against inflation. However, when real interest rates are negative as they are currently, I bonds have a very large advantage over TIPS. The fixed rate component of an I Series Savings bond cannot go negative, it has a floor of 0%. The fixed component of the TIPS however, can go negative as was the case during much of the period after the financial crisis.