Investors who are looking for ways to diversify their investment portfolios may want to consider strategies outside of the traditional stock market. One such option is a certificate of indebtedness. This term has somewhat faded into obscurity, but some investors find it a viable solution. If you are not familiar with how a certificate of indebtedness works or the benefits of such an investment, you're in the right place. Here is everything you need to know to determine if using this investment option is right for your investment strategy.
What is a certificate of indebtedness?
Certificates of indebtedness were securities that the United States Treasury once issued. The securities were short-term coupon-bearing notes that preceded T-Bills. They were referred to as "IOUs" that the government issued to investors in exchange for the satisfaction of tax liabilities or for paying for bond subscriptions. Investors who held certificates of indebtedness could to the banks that they purchased them from the exchange them for cash. Investors were promised a return of the funds they invested with a fixed coupon. These certificates were similar to other securities issued by the US Treasury.
What was the purpose and history of a certificate of indebtedness?
The government issued certificates of indebtedness to help smooth out the fluctuations that occurred within the Federal Reserve banks' balances. The first such securities were offered during the time of the Civil War and launched with the Act of March 1, 1862. This provision provided for a six percent interest rate on certificates of $1,000 or more. The total repayment would occur within one year or earlier. Another name for these certificates was Treasury Notes. The certificates were also offered in lower denominations starting at $50 during the infamous Panic of 1907. Certificates of indebtedness were also issued during World War I to fund the war effort.
Are certificates of indebtedness still available?
Certificates of indebtedness still exist, however, they are securities that do not bear interest. They mature in one day from the date of purchase. When you purchase a certificate of indebtedness from the US Treasury Department, the day after the purchase, the entire amount of the investment is rolled over until the holder of the certificate requests a redemption according to US Treasury Direct, a certificate of indebtedness is used for only one purpose. They are used to build the fund to purchase other securities from the US Treasury. What this means for an investor is that the certificates may be purchased and held until the total value is enough to purchase other securities. Although you don't make any money on them, the funds are available any time you want to use them for investment purposes.
What you need to know about zero percent certificates of indebtedness
Certificates of indebtedness are recorded with the US Treasury Department and there is no limit to the amount that you can invest in the certificates. You may also enroll in a payroll savings plan to have designated funds deducted automatically from your bank or your employer. There is a maximum of $1,000 per transaction when purchasing these certificates. The securities are redeemed through your Treasury Direct account versus a bank or other financial institution. You may purchase the certificates through your Treasury Direct account online. All related transactions are recorded at the Treasury and may be accessed through your account.
How have certificates of indebtedness changed over the years?
A certificate of indebtedness began as a way for investors to make a return on their investment by purchasing interest-bearing security from the US government. Interest rates as high as six-percent were offered with an average turnaround time of 12 months or less for the maturity term. These predecessors to T-Bills paved the way for a variety of fundraising strategies for the government. Through the years, other types of short-term investment offers including bonds, stocks, and other investment strategies became more popular and the certificates of indebtedness evolved into different types of security. The rules and characteristics of the certificates changed and they became a zero-interest option for storing assets of face value that is equal to the amount paid for them in an account for later use. Most often, investors use them to save up for certain types of securities that may be purchased from the US Treasury according to US Legal. It's become more of a safe holding place to convert cash into an asset that bears no interest. It's a way to save up cash for future investments without tieing the investment up for more than one day.
Certificates of indebtedness are no longer a way to make money, but rather, a way to put money back in an account to make future purchases of interest-bearing securities. These certificates are purchased through the United States Treasury through the Treasury Direct website. Perhaps one of the greatest benefits of certificates of indebtedness is that they provide a pathway to investing. You must have a Treasury Direct account to purchase them. There is no need to worry about your cash because it is available through the certificates and recorded safely and securely by the Treasury. Although you don't make money with them, you don't lose money either, as is possible with traditional stock investments. The assets are there and they can be seamlessly rolled over in one day and used to purchase other securities. Certificates provide a modern method for digitally holding cash for you until you're ready to convert the savings into low-risk interest-bearing securities that are backed by the US government. This method is just one more investment strategy that you may want to consider for future use.
Written by Allen Lee
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