TIPS (Treasury
Inflation-Protected Securities)
TIPS are issued
by the U.S. Government and are designed to guard an investment from
the effects of inflation. The principal value is adjusted semiannually,
based on changes in the Consumer Price Index for All Urban Consumers1
(CPI). The interest rate is applied to the inflation-adjusted principal,
not the original face value. Interest is paid to the investor semiannually.
If inflation
occurs throughout the life of the security, each interest payment
will be greater than the previous one. If deflation occurs the inflation-adjusted
principal will adjust downward and the interest payments will be
less than if inflation occurred. At maturity, the investor will
receive the greater of either the inflation-adjusted principal or
the original face value.
To purchase
TIPS, investors place a competitive or noncompetitive bid through
an auction process. A competitive bid is where the investor specifies
the yield that would be acceptable. A noncompetitive bid is when
the investor agrees to accept whatever yield is determined by the
auction.
Auction
Month |
January |
April |
July |
October |
5-Year
TIPS |
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10-Year
TIPS |
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20-Year
TIPS |
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Potential TIPS Benefits to Investors
Interest
protection from inflation
Interest payments
increase during period of inflation, allowing investors to keep
pace with rising prices of good and services.
Various
maturity dates
TIPS are available
with maturities of 5, 10, and 20 years.
Diversification
TIPS provide
another choice for investors to diversify their investment portfolio.
What
is the tax implication of TIPS?
While TIPS interest
income is exempt from state and local income taxes it is subject
to Federal income tax. In addition, the inflation adjustments to
the base amount are taxable in the year in which such adjustments
occur even though the investor won’t receive the additional
interest until the TIPS mature or is redeemed.
1 Additional
information about the Consumer Price Index can be found at www.bls.gov
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