How To Buy TIPS Securities

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Instructions

Understand what you're buying. TIPS are government-backed securities that are indexed against the Consumer Price Index (CPI). What this means is that as inflation increases, the value of your investment increases as well. For example, if you initially purchase $1,000 in TIPS and the CPI doubles over the term of the investment, your principal will be worth $2,000 at maturity.

There are two main ways to buy TIPS. You can purchase them directly through the U.S. Department of Treasury or through a brokerage account.

Purchase TIPS directly from the U.S. Treasury. TIPS can be purchased online, 24/7, from the United States government at www.treasurydirect.gov. First, set up a TreasuryDirect account. For your account, you'll need your Social Security number, a United States address, a checking or savings account, and an email address.

TIPS can be purchased in increments of $100, with a minimum purchase of $100 and a maximum of $5 million. They are issued electronically with maturity terms of either 5, 10, and 20 years. You do not have to hold them to maturity and can sell them at any time. The interest rate you'll receive is determined at the time of purchase.

When your TIPS matures, you'll receive the inflation-adjusted principal or original principal, whichever is greater. The interest is paid every six months, at the fixed interest rate. However, the rate is applied to the adjusted principal, so, like the principal, interest payments rise with inflation and

fall with deflation.

Advantages: no transaction fees or other costs; direct access to your TIPS online; and you won't lose your principal if the CPI drops.

Disadvantages: interest is paid only twice a year; and the growth in principal is subject to federal income tax even though you won't actually receive the income until you sell the TIPS or they reach maturity.

Purchase TIPS through an ETF. Another option for purchasing TIPS is by buying shares of an exchange-traded fund (ETF). An ETF invests in a variety of different TIPS with varying interest rates, maturity dates, etc.

To purchase shares in an ETF, you'll first need a brokerage account. There are different ETFs to choose from, such as the Vanguard Inflation-Protected Securities fund (ticker symbol VIPSX) and the iShares Barclays TIPS Bond Fund (ticker symbol TIP). These are the two largest TIPS ETFs in the country. You buy and sell shares in these ETFs exactly the same as you would a stock.

Advantages: interest paid out monthly or quarterly (fund dependent); increases in principal (due to increase in the CPI) are paid out monthly or quarterly - you don't have to wait until maturity; and you have the ability to automatically reinvest payments.

Disadvantages: commissions are charged by brokers to buy and sell ETF shares; deflation can possibly cause some loss of principal because the older TIPS in the ETF will have already paid out some part of their inflation increases before you've bought shares.

Source: ehow.com

Category: Taxes

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