Statistics suggest that many savings bonds fall through the cracks because bondholders do not keep track of them nor let heirs know about them. Over $9 billion worth of savings bonds have stopped earning interest, but have not been cashed, according to Treasury Direct, a service of the U.S. Department of the Treasury. It is not easy to match unclaimed bonds with their owners or rightful heirs. The government database Treasury Hunt provides a limited record, but it only covers Series E bonds issued in 1974 or later that have reached final maturity.
Savings bonds are considered non-probate assets. Therefore, like retirement accounts and life insurance, they are not generally inherited according to the terms of a will. Instead, they are “payable on death” to the person or entity (for example, a trust) named as co-owner or beneficiary and can generally be distributed immediately after someone dies.
If no survivor is named, or that person has already died, the bond becomes an asset of the estate, in which case things get more complicated and distribution could take significantly longer. If the total value of the bonds and other Treasury securities is more than $100,000, federal regulations require they be administered through a court. When smaller sums are involved, Form 5336 walks you through a separate procedure, which can be used only when, irrespective of the bonds, under state law no court will be involved.
Since savings bonds are not considered to be “sexy” investments, your first inclination may be to cash them out, but that could turn out to be a mistake. For bonds that have not yet matured, inheritors have a choice of either redeeming the bonds or getting them reissued in their own name. Reissuing the bonds allows you to continue to earn whatever interest the bond pays until its maturity date.
To determine what the bond is worth, you can use the savings bond calculator on Treasury Direct. Input the type of bond (the “series”), denomination, serial number and issue date, and the calculator will tell you how much interest has already accumulated at the current interest rate, and when the bond matures.
Inheritors will want to dump bonds that have matured and stopped earning interest (find a list here). If the bonds are still accruing interest, however, there’s a decision to make. Depending on the type of bonds and when they were issued, the interest rate may be substantially higher than what other low-risk investments – such as Treasury bills, certificates of deposit and money market funds – are now paying. In that case, inheritors might decide to hang on to them.
For income tax purposes, interest on EE Bonds and I Bonds is added to the initial value until the bonds are redeemed. The difference between the purchase price of the bond and the redemption value of the bond is subject to federal income tax and exempt from state and local tax. Savings bond holders have a choice of when to pay that tax. One option is to “accrue” it annually, in which case you report the interest and pay tax on it each year. The other is to postpone the tax until the year in which the bond is redeemed. Most people choose to defer, or delay, the tax. If so, when they die holding savings bonds, there is income in respect of a decedent, or IRD: income that wasn’t taxed before a person’s death and would have been taxed if the individual had lived long enough to receive it.
So, who pays the tax on this income? One option is to report the income on the decedent’s final individual income tax return and the other is to report the income to the estate. Be aware that when an estate is subject to federal estate tax, whoever pays the income tax on the inherited bonds is entitled to an income tax deduction for the portion of the estate tax attributable to the interest on the inherited bonds. You will need to run the numbers in making the decision of who will report the income to determine where the greatest tax benefit lies.
In conclusion, keep good records of the bonds you own and the interest paid; otherwise, many years from now when the bond matures or is redeemed, you or your heirs could get stuck paying double tax.
For additional information on how to maximize the money you receive from your bonds, feel free to contact a Henry+Horne professional to help assist you.
Pamela Wheeler, EA