How Treasury Bills Work

Research. Education. Perspective.

Treasury bills, commonly called T-bills, are short-term debt obligations issued by the U.S. Department of the Treasury. They are among the simplest fixed-income securities, but their pricing can be confusing because bills generally do not pay periodic coupon interest.

Instead, a bill is typically purchased for less than its face value and matures at face value. The difference between purchase price and maturity value represents the investor's interest.

Key Takeaways

• Treasury bills mature in one year or less.
• Regular bill terms include 4, 6, 8, 13, 17, 26 and 52 weeks.^[1]
• Bills are sold through Treasury auctions and can also trade in the secondary market.
• They generally do not pay periodic coupons.
• Treasury bill interest is subject to federal income tax but exempt from state and local income taxes.^[1]
• Holding to maturity and selling early create different risk profiles.
• Treasury bills have very low credit risk, but investors still face inflation, reinvestment, price and opportunity-cost risks.

What Is a Treasury Bill?

A Treasury bill is a marketable U.S. government security with a maturity of one year or less.

> ROIStreet Definition > > A Treasury bill is a short-term U.S. Treasury debt security generally issued at a discount to face value and redeemed at face value at maturity.

TreasuryDirect lists regular bill terms of 4, 6, 8, 13, 17, 26 and 52 weeks.^[1]

That distinguishes bills from longer-maturity Treasury notes and bonds.

How Does a Treasury Bill Earn Interest?

Treasury bills generally earn interest through discount pricing rather than coupon payments.

Assume a bill has a face value of $10,000 and an investor pays $9,800. If the bill is held to maturity and Treasury pays the full face value, the investor receives $10,000.

The $200 difference is the investment return before taxes.

The exact purchase price is determined by the auction or secondary-market price.

Why Bill Yield Quotes Can Be Confusing

Treasury bills can be quoted using several yield conventions. A bank discount rate, investment rate and effective annual return are not necessarily identical.

The actual return depends on:

• purchase price
• face value
• days to maturity
• yield convention
• whether the bill is held to maturity
• transaction costs, if any
• taxes

When comparing a bill with another short-term investment, the useful comparison is on a consistent yield and after-tax basis rather than by headline labels alone.

How Treasury Bill Auctions Work

Treasury sells marketable securities through auctions.

TreasuryDirect publishes auction calendars, announcements and results.^[2][3][4]

Regular bills are auctioned frequently. TreasuryDirect currently indicates weekly offerings for 4-, 6-, 8-, 13-, 17- and 26-week bills and generally every four weeks for 52-week bills.^[1]

Investors can participate through:

• TreasuryDirect
• banks
• brokers
• dealers

Competitive vs. Noncompetitive Bids

A noncompetitive bid accepts the yield determined at auction, subject to Treasury's purchase limits and rules.

A competitive bid specifies the yield the bidder is willing to accept. Competitive bidding is generally associated with larger or more sophisticated market participants.

For most educational purposes, the important point is that the auction determines the price and yield of the new issue.

What Happens at Maturity?

If held to maturity, the Treasury bill is redeemed at its face value.

For a bill purchased below par:

purchase price < maturity value

The difference creates the investment return.

TreasuryDirect and brokerage platforms can offer different reinvestment mechanics, including automatic reinvestment or auto-roll features.

Can a Treasury Bill Be Sold Before Maturity?

Yes. Marketable Treasury bills can trade before maturity.

Selling early changes the economics because market value can move with:

• prevailing interest rates
• remaining time to maturity
• supply and demand
• liquidity

If market yields rise after purchase, a bill's price can fall. If yields decline, its price can rise.

Because bills are short term, their price sensitivity is generally lower than that of long-term bonds, but it is not zero.

Hold to Maturity vs. Sell Early

A Treasury bill should therefore not be described as incapable of losing money. An investor who sells before maturity can realize a loss.

What Risks Do Treasury Bills Have?

Treasury bills are generally regarded as having extremely low credit risk. But credit risk is only one type of risk.

Inflation risk

If inflation exceeds the bill's return, purchasing power can decline.

Reinvestment risk

Short maturities mean proceeds must be reinvested frequently if exposure is maintained. Lower future market rates can reduce subsequent income.

Opportunity-cost risk

Money committed to one bill cannot simultaneously earn a higher return elsewhere.

Market-price risk

A bill sold before maturity can be worth less than its purchase price.

Operational considerations

Where a Treasury is held can affect how it is transferred, sold or reinvested.

Treasury Bill Taxes

TreasuryDirect states that Treasury bill interest is subject to federal income tax but exempt from state and local income taxes.^[1]

That can make a Treasury bill different from bank deposits or corporate fixed-income products for investors in states with income taxes.

Tax outcomes depend on individual circumstances.

TreasuryDirect vs. Brokerage Account

Treasury bills can be purchased directly through TreasuryDirect or through financial institutions.

TreasuryDirect can provide direct auction access and direct Treasury custody.

A brokerage account can provide:

• Treasuries alongside other investments
• secondary-market trading
• integrated reporting
• broker-specific auto-roll features

The security can be the same U.S. Treasury obligation while the account experience differs.

Treasury Bills vs. Money Market Funds

A money market fund can hold Treasury bills and other short-term instruments, but the investor owns shares of a pooled fund rather than a specific Treasury bill.

A fund can offer daily transaction convenience but also has fund expenses and portfolio-level management.

A directly owned bill has a defined maturity and face value.

Building a T-Bill Ladder

A ladder spreads maturities across several dates.

For example:

• 4 weeks
• 8 weeks
• 13 weeks
• 26 weeks

As each bill matures, proceeds can be reinvested.

The structure can spread reinvestment decisions over time, but it does not eliminate reinvestment risk.

Common Misconceptions

"Treasury bills pay coupons."

Regular bills generally do not pay periodic coupons.

"Treasury bills cannot lose money."

A bill sold early can be sold at a loss, and inflation can erode purchasing power.

"Treasury bill interest is tax-free."

It is federally taxable, although exempt from state and local income taxes.^[1]

"A 5% bill rate means I earn 5% in four weeks."

Yield quotations are annualized conventions.

"Treasury bills and Treasury bonds are the same."

They are both Treasury securities, but their maturity and cash-flow structures differ.

A Treasury Bill Research Framework

Useful questions include:

1. What is the maturity date?
2. Is the purchase at auction or in the secondary market?
3. What is the actual purchase price?
4. Which yield convention is being quoted?
5. Will the bill be held to maturity?
6. What happens to proceeds at maturity?
7. How does the yield compare after taxes?
8. Is liquidity needed before maturity?
9. What reinvestment risk exists?
10. How does inflation affect real return?

The Bottom Line

Treasury bills convert a discounted purchase price into face value at maturity.

They have very low credit risk, but investors can still face inflation risk, reinvestment risk, opportunity cost and market-price risk if they sell early.

The most useful analysis separates the government's payment obligation from the investor's actual economic return.

Sources & References

1. TreasuryDirect: Treasury Bills
2. TreasuryDirect: General Auction Timing
3. TreasuryDirect: Upcoming Auctions
4. TreasuryDirect: Recent Auction Results

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