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Baby bonds are savings-type securities that are available in small dollar denominations, typically $5000 or less. In the past, small dollar bonds were common in the United States, especially during wartime. During the Civil War, for example, the Union government financed most of the costs of fighting the war by selling baby bonds, often in amounts of $50 or less. During World War I, bonds again helped pay for U.S. war efforts; the popular Liberty Bonds were available in denominations as low as 25 cents.
In 1935, the U.S. government issued a series of bonds that are also commonly referred to as baby bonds. Launched in March of that year, the bonds were the first savings-type bond to be offered to the average, everyday investor. Bonds issued that year were known as A bonds, with B bonds following in 1936, C bonds in 1937 and 1938, and D bonds from 1938 to 1941. The bonds were a huge success, as the government raised a total of $3.9 billion selling the low-denomination bonds to citizens.
The bonds were sold at 75 percent of face value in denominations that ranged from $75 to $1000. They had a 10-year maturity period, and if they were held for the entire 10-year period, they accrued interest at 2.9 percent, compounded semi-annually. Available across the country at every branch of the U.S. Post Office (or from the U.S. Treasurer's office), the bonds featured tax-free interest. While most of the baby bonds have already been cashed in, they still pop up from time to time today when elderly customers of the early savings bonds pass away. The government still honors the bonds and will pay up to the full face value of $1,000 if they are cashed in.
In the current bond market, the term baby bonds does not usually refer to those early U.S. government bonds, but instead to small denomination municipal bonds issued by cities and states to fund construction and other high-cost projects. The bonds typically have maturity periods of 8 to 15 years and are zero coupon bonds, usually rated A or better on the bond market. There is no purchase commission on the bonds, and they are typically bought by the small investor directly from the issuing city or state treasurer's office. An example of a baby bond would be one purchased for $975 with a $5000 face value if redeemed at full-term in 2019, yielding interest at 6.4 percent. In recent years "baby" corporate bonds have also made their appearance.
Buyers can either manage such bonds themselves (keep them safe, track their maturity, and cash them in) or use a management service. The first such service was offered in 1993 by the Midwest Securities Trust Company, a subsidiary of the Chicago Stock Exchange.
In the late 1990s, another type of bond gained popularity under the "baby bond" name. First launched in the United Kingdom, this type of baby bond is a savings instrument parents can use to build a nest egg for their child. Under the plan parents contribute money to a tax-free bond fund that guarantees a minimum lump sum payment when the child turns 18. The plan has to last a minimum of 10 years; during that time the parents can make monthly contributions ranging from £10 to £25 ($17 to $43). Participants are not required to pay income tax or capital gains taxes on the baby bond investments.
The United Kingdom's Child Trust Fund, approved in April of 2005, is the latest incarnation of this program. It applies to children born after September 1, 2002; each such child receives a voucher worth £250 ($430) to start the account. The most recent new program was launched in Hungary. Late in 2005, the Hungarian Parliament approved baby bonds for children born after December 31, 2005. Each bond will be worth 40,000 forints ($190), will be tax free, and will reach maturity with the 18th birthday of the child.
SEE ALSO Bonds
"Child Trust Fund: What Will Yours Grow Into?" HM Revenue & Customs 30 December 2005.
"Hungary's Parliament OKs Special Bonds." Business Week. 28 December 2005.
U.S. Department of the Treasury, Bureau of the Public Debt. "Series A, B, C, and D." Available from http://www.publicdebt.treas.gov/sav/savold.htm. Retrieved on 7 January 2005.
Hillstrom, Northern Lights
updated by Magee, ECDI