Tax reporting of US Treasury Securities bought on the secondary market

Forum|Forum|3 years ago
August 10, 2022
2 replies
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If a Treasury note (with coupons) is purchased on the secondary market for less than the maturity value, and held to maturity, should the difference be reported as interest in the year of maturity rather than a capital gain?

Also does this apply to both treasury notes and bonds (with coupons and held to maturity)?

I am pretty sure the answer is yes to both, but can someone definitely confirm?

I know it applies to treasury bills.

Thank you.

Best answer by TurboLover2

I agree.

Gain is sometimes a large component, but the states cannot tax obligations of the U.S. Government, which is essentially to pay interest on debt issued. Capital gain on the sale of those securities is a different matter.

==UPDATE==

Having seen no response to my post below I am marking it (my own answer) as the best answer.

=========

I am again questioning whether the answers given to my question are correct.

From IRS Publication 550:

"Market Discount Bonds
A market discount bond is any bond having
market discount except:
• Short-term obligations (those with fixed
maturity dates of up to 1 year from the date
of issue),
• Tax-exempt obligations you bought before
May 1, 1993,
• U.S. savings bonds, and
• Certain installment obligations.
Market discount arises when the value of a
debt obligation decreases after its issue date.
Generally, this is due to an increase in interest
rates. If you buy a bond on the secondary market, it may have market discount."

THEN IT SAYS:

"When you buy a market discount bond, you
can choose to accrue the market discount over
the period you own the bond and include it in
your income currently as interest income. If you
do not make this choice, the following rules
generally apply.
• You must treat any gain when you dispose
of the bond as ordinary interest income, up
to the amount of the accrued market discount. See Discounted Debt Instruments

..."

https://www.irs.gov/pub/irs-pdf/p550.pdf

see pages 14 and 15

===

So this is a "Market Discount Bond" and according to how I read the IRS rule relating to market discount bonds the gain is treated as ordinary interest income, NOT as a capital gain.

So it appears to me the answers that were given in this thread are incorrect. And also, since the gain is treated as ordinary interest income that the state tax income exemption is preserved.

I welcome any correction or validation of my understanding but it appears to me that the previous answers were wrong.

Anonymous_

Employee

Interest from a T-Bill is paid at maturity.

With respect to notes and bonds, you will have capital gain if you sell for more than your basis (purchase price).

TurboLover2Author

tagteam

Thank you, I agree and I am aware of that.

But that is not my question.

My question is about how to treat the difference between the purchase price and maturity value of coupon treasury notes and bonds bought on the secondary market and held to maturity (not about a gain on selling them). I assume it is considered to be interest and not capital gain and I assume the entire difference should be reported in the year of maturity.

I am looking for confirmation that both of those assumptions are correct or, if not, how it should be reported.