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How it works (Example):

Interest income from TIPS is subject to federal income tax , but is exempt from state and local income taxes. Also, in any year when TIPS principal grows, the gains are considered reportable income for federal tax purposes.

Bond Pricing on the Term Structure of Interest Rates with Expected Inflation Rate Changes

It is also important to note that deflation will likewise decrease a TIPS' principal amount and interest payments. Traditionally, an investor's return on any investment is somewhat eroded, and thus risked, by the effects of inflation. TIPS allow investors to achieve a "real" rate of return and theoretically eliminate this aspect of investment risk.

Thus, TIPS can sometimes provide higher returns than traditional. However, an increasing rate of inflation does not mean that TIPS will always outperform traditional bonds.

Treasury Inflation-Protected Securities (TIPS)

The difference in yield on a traditional bond versus a TIPS may be so high that, after adjusting for inflation, it still beats the return on similar-maturity TIPS. Show 5 More. Our in-depth tools give millions of people across the globe highly detailed and thoroughly explained answers to their most important financial questions.


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Each month, more than 1 million visitors in countries across the globe turn to InvestingAnswers. However, an increasing rate of inflation does not mean that TIPS will always outperform traditional bonds. The difference in yield on a traditional bond versus a TIPS may be so high that, after adjusting for inflation, it still beats the return on similar-maturity TIPS.

Show 5 More. Our in-depth tools give millions of people across the globe highly detailed and thoroughly explained answers to their most important financial questions. Each month, more than 1 million visitors in countries across the globe turn to InvestingAnswers.

Inflation-indexed bond - Wikipedia

Financial Dictionary Calculators Articles. What it is: How it works Example: Why it Matters: Popular Now.


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What is a Small-Cap Stock? This process continues until the bond matures.

What it is:

Once the bonds mature, investors receive either the adjusted, higher principal or their original investment, whichever is greater. As a result, investors cannot ever receive less than the face value of the bond, even in the rare case of deflation falling prices. TIPS are also highly sensitive to changes in prevailing interest rates. As a result, you could lose money if you sell a TIPS prior to its maturity. In this case, the loss of principal may far outweigh the benefit of inflation protection.