Inherited Savings Bonds: What You Need to Know

Savings bonds are a popular investment option for many individuals. These bonds provide a low-risk investment opportunity that allows investors to earn interest while keeping their funds secure.

Definition of Inherited Savings Bonds

Inherited savings bonds refer to savings bonds that are left as a gift to a beneficiary after the bondholder's death. These bonds can be passed down through a will or as a beneficiary designation. Inherited savings bonds can be a valuable asset for beneficiaries, as they can provide a source of income or a lump sum payout.

It is important to note that inherited savings bonds are subject to federal estate tax. The value of the bonds is included in the total value of the estate, and if the estate is worth more than the federal estate tax exemption, the bonds may be subject to tax.

If you have recently inherited savings bonds or are expecting to receive them, it is important to understand how they work and the steps you need to take to claim and redeem them.

Understanding Inherited Savings Bonds

When you inherit savings bonds, there are several steps you will need to take to claim them and ensure that you receive the funds you are owed. However, before we delve into the process, let's first understand what savings bonds are.

Savings bonds are a type of investment issued by the U.S. Department of the Treasury and backed by the U.S. government. They are a low-risk investment option that can be purchased for as little as $25. Savings bonds are a popular investment choice for those who want a safe and secure way to save money for the future.

Savings bonds are issued in two different types: Series EE bonds and Series I bonds.

Series EE

Series EE bonds earn interest for up to 30 years. The interest rate on Series EE bonds is fixed for the life of the bond, which means that the rate will not change over time. Series EE bonds are a good option for long-term savings, as they provide a guaranteed rate of return.

Series I

Series I bonds earn interest for up to 30 years but are tied to inflation rates. The interest rate on Series I bonds is a combination of a fixed rate and a variable rate that is adjusted twice a year to keep up with inflation. Series I bonds are a good option for investors who want to protect their savings from inflation.

How Inherited Savings Bonds Work

When a savings bondholder passes away, their bonds become part of their estate. The bonds can then be passed down to a beneficiary. The beneficiary will need to take steps to claim the bonds and ensure they receive the funds they are owed.

It is important to note that the inherited savings bonds may have different tax implications depending on how they are redeemed. If the bonds are redeemed in the same tax year that they are inherited, the beneficiary may owe income tax on the interest earned. If the bonds are held until maturity, the beneficiary will owe income tax on the interest earned at that time.

The Process of Inheriting Savings Bonds

Notification of Inheritance

The first step in inheriting savings bonds is to be notified of the inheritance. This notification can come from the estate executor or from the financial institution that holds the bonds. It is important to note that if the bondholder did not name a beneficiary, the bonds will become part of their estate and will be distributed according to their will or state law.

Once you have been notified of the inheritance, it is important to gather all relevant information about the bonds, including the bondholder's name, social security number, and the bond serial numbers.

Claiming Inherited Savings Bonds

After being notified of the inheritance, you will need to claim the inherited savings bonds. This process will vary depending on the financial institution holding the bonds. In most cases, you will need to provide proof of identity and the bondholder's death certificate. You may also need to fill out a claim form provided by the financial institution.

It is important to keep in mind that savings bonds are non-transferable, which means that you cannot simply transfer ownership of the bonds. Instead, you will need to cash them in and then distribute the funds according to the bondholder's wishes or state law.

Required Documentation

When claiming inherited savings bonds, you will typically need to provide several forms of documentation. This can include the bondholder's death certificate, your proof of identity, and any relevant estate documents. It is important to have all of the necessary documentation in order to avoid any delays in the process.

Once you have claimed the inherited savings bonds, you can choose to cash them in or hold onto them for future use. If you decide to cash them in, you will need to pay taxes on the interest earned on the bonds. However, if you use the funds for qualified education expenses, you may be eligible to exclude the interest from your taxable income.

Tax Implications of Inherited Savings Bonds

When you inherit savings bonds, you may be subject to a variety of taxes, including federal income tax, state and local taxes, and estate and inheritance taxes. It is important to understand these taxes and how they may impact your inheritance.

It is also important to note that the inherited savings bonds may have different tax implications depending on how they are redeemed. If the bonds are redeemed in the same tax year that they are inherited, the beneficiary may owe income tax on the interest earned. If the bonds are held until maturity, the beneficiary will owe income tax on the interest earned at that time.

Federal Income Tax

Inherited savings bonds are subject to federal income tax. When you redeem these bonds, you will need to report the interest earned on your tax return. The amount of tax you will owe will depend on your income level and the amount of interest earned on the bonds.

It is important to note that if the original owner of the savings bonds paid income tax on the interest earned, you will not have to pay tax on that same interest when you redeem the bonds. However, if the original owner did not pay tax on the interest, you will be responsible for paying tax on the full amount of interest earned.

State and Local Taxes

In addition to federal income tax, inherited savings bonds may be subject to state and local taxes. Some states exempt savings bond interest from state taxes, while others do not. It is important to check with your state and local tax authorities to determine your tax obligations.

For example, if you live in California, you may be subject to state income tax on the interest earned from your inherited savings bonds. However, if you live in Texas, you will not be subject to state income tax on the interest earned.

Estate and Inheritance Taxes

If the value of the inherited savings bonds is high enough, it may be subject to estate and inheritance taxes. These taxes vary by state and can be complicated to navigate.

For example, in 2023, the federal estate tax exemption is $12.92 million. This means that if the total value of the estate, including the savings bonds, is less than $12.92 million, no federal estate tax will be owed. However, if the total value of the estate is more than $12.92 million, the estate will owe federal estate tax on the amount over the exemption.

Some states also have their own estate and inheritance taxes, which may apply to savings bonds. For example, in Massachusetts, estates valued at more than $1 million are subject to state estate tax.

It is important to work with a financial advisor or tax professional to understand the specific tax implications of your inherited savings bonds and to develop a plan for managing these taxes.

Redeeming Inherited Savings Bonds

Once you have claimed your inherited savings bonds, you may be wondering when and how to redeem them.

When to Redeem

When to redeem your savings bonds will depend on your financial situation and goals. If you need cash now, redeeming the bonds may be the best option. However, if you can afford to wait, allowing the bonds to mature can result in higher returns.

How to Redeem

To redeem your inherited savings bonds, you will need to contact the financial institution that holds the bonds. You will need to provide proof of identity and the bondholder's death certificate. Once the bonds have been redeemed, you will receive payment for the bond value and interest earned.

Receiving Payment

There are several options for receiving payment when redeeming savings bonds. You can receive payment by check, direct deposit, or TreasuryDirect. It is important to consider your preferences and tax obligations when selecting a payment method.

Conclusion

Inheriting savings bonds can be a complex process. However, by understanding the different types of bonds, the process of inheriting them, and the tax implications involved, you can ensure that you make the most of these assets.

Burton Enright Welch can help you to make informed decisions about when and how to redeem your inherited savings bonds so that you can maximize your returns and use these assets to achieve your financial goals.