Taxation of Treasury bills, notes and bonds

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Kevin M
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Re: Taxation of Treasury bills, notes and bonds

Post by Kevin M »

Kookaburra wrote: Sat Nov 19, 2022 12:09 am If one buys a Tbill and sells on the secondary market before maturity, how do they know how much of the price discount left is interest vs capital gain/loss?
You can read about this in IRS pub 550:
Discount on Short-Term Obligations

When you buy a short-term obligation (one with a fixed maturity date of 1 year or less from the date of issue), other than a tax-exempt obligation, you generally can choose to include any discount and interest payable on the obligation in income currently. If you do not make this choice, the following rules generally apply.

You must treat any gain when you sell, exchange, or redeem the obligation as ordinary income, up to the amount of the ratable share of the discount. See Discounted Debt Instruments, later.
You can follow the link to see the methods that can be used to determine the ratable share of the discount.

When I sold bills before maturity in 2019 at Schwab, they reported the proceeds as short-term capital gain in the year end summary, not provided to the IRS on 1099-B. I have a spreadsheet in which I calculated the accrued acquisition discount, which I reported as interest, with the remainder being short-term capital gain. I'd have to fire up my 2019 HR Block software to see the details of exactly how I entered all of this.

Kevin
If I make a calculation error, #Cruncher probably will let me know.
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Re: Taxation of Treasury bills, notes and bonds

Post by Klewles »

Electron wrote: Sat Nov 19, 2022 2:28 pm If the state tax exemption on accrued market discount is an issue in some states, I assume one could buy Treasuries selling at a premium instead. The coupon interest would generally be higher but the premium or amortized premium would be subtracted on Schedule B.
+1. That would seem to make it certain that all interest is excludable from state income. Furthermore, my experience is that Turbotax handles it correctly for both Federal and my state (CA) without any fuss, because the 1099-INT breaks out Treasury interest (box 3) and Treasury premium (box 12), allowing TT to make the correct calculation.
I'm surprised that the state tax exemption is an issue as one can often buy a Treasury at a discount or premium with similar yield-to-maturity.
It's an issue because in some states -- e.g., CA -- tax law is silent on what defines excludable Treasury interest. If I understand correctly, Federal law says that interest paid by Treasury is not taxable by any state. But market discount is not paid by Treasury, it's "paid" by the seller, so we're left to guess whether CA law regards it as taxable or not. I won't try to argue that it is or is not taxable -- the issue is that we have to argue it because CA law is silent. To avoid the issue, buy at a premium.
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Re: Taxation of Treasury bills, notes and bonds

Post by MikeG62 »

Klewles wrote: Sun Nov 20, 2022 5:13 am
Electron wrote: Sat Nov 19, 2022 2:28 pm If the state tax exemption on accrued market discount is an issue in some states, I assume one could buy Treasuries selling at a premium instead. The coupon interest would generally be higher but the premium or amortized premium would be subtracted on Schedule B.
+1. That would seem to make it certain that all interest is excludable from state income. Furthermore, my experience is that Turbotax handles it correctly for both Federal and my state (CA) without any fuss, because the 1099-INT breaks out Treasury interest (box 3) and Treasury premium (box 12), allowing TT to make the correct calculation.
I'm surprised that the state tax exemption is an issue as one can often buy a Treasury at a discount or premium with similar yield-to-maturity.
It's an issue because in some states -- e.g., CA -- tax law is silent on what defines excludable Treasury interest. If I understand correctly, Federal law says that interest paid by Treasury is not taxable by any state. But market discount is not paid by Treasury, it's "paid" by the seller, so we're left to guess whether CA law regards it as taxable or not. I won't try to argue that it is or is not taxable -- the issue is that we have to argue it because CA law is silent. To avoid the issue, buy at a premium.
That's fine in theory, but maybe harder to execute in practice. More specifically, I am not sure one could find Treasuries selling at a premium in today's market, or if one could they would be very few and far in between. To do so, the coupon on that bond would have to be above the market interest rates for comparable term Treasuries. As an example, I've bought a crap ton of Treasuries in the secondary market this year with remaining maturities ranging from 3 months to 20 years and lots in between. I don't recall ever spotting one selling at a premium.

Separately, it seems to me that if state tax rules are silent on the question of whether the accrued market discount is exempt or not, this does not mean the interest is not exempt (or people should default to assuming it is taxable). It could be exempt or could be taxable. Sometimes one has to take a position on their return and be prepared to defend it in the unlikely event one were audited (and this question were to even come up). Would be it wholly unreasonable to assume it is exempt where state tax law were silent on the matter? I don't think so. Would it not pass the red face test? I think it most certainly would.
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Re: Taxation of Treasury bills, notes and bonds

Post by ClassOf2021 »

MikeG62 wrote: Fri Nov 18, 2022 9:04 am
cas wrote: Thu Nov 17, 2022 10:26 am
...State return: People are going to be unhappy to hear this, but Turbotax appeared to completely punt on what to do about accrued market discount on the state return for my state.

I don't want to get into the whole issue, discussed in other threads, of whether accrued market discount is or is not "treasury interest" that can be deducted on a state return. I'm just saying what Turbotax did which was ... apparently punt to the user of the software:
  • It did NOT ask whether the accrued market discount was associated with a Treasury and it did NOT automatically deduct it from the state return
  • I didn't find any area in the "interview" mode for the state tax return that seemed to have anythng to do with dealing with income from US Government Obligations.
  • However, I could go into Forms mode on the state return, go to the line on the state return where the adjustment for Treasury interest is entered, click down to a worksheet, and Turbotax showed two items for that line.

    The first item was not changable and showed interest officially designated as Treasury interest on some federal tax reporting form (e.g. Box 3 of 1099-INT.)

    The second item *was* changeable, said something like (I forgot to write down the exact wording) "Other interest from US Government Obligations that is deductible under <my state> state law and is not accounted for in the previous line". Click there, and it brought you yet another worksheet where you entered a description and amount. And,then, "poof" ... that amount was added to the line for US Government Obligation interest on the state tax return and deducted from state income.

    But that looked very much to be Turbotax punting and putting all the burden on the taxpayer to figure out and being liable to their own state tax authorities on how to deal with Treasury accrued market discount on the state tax return. I have no idea if the online version of Turtotax, which I don't think has a Forms mode, is even capable of the above maneuver.
This is very helpful actually.

I said in another thread that this is something I will deal with when preparing my tax return (using TT). Want to see how the info is imported by TT and how TT handles the amortization of the market discount. Your comments align with that I am expecting - users may have to make some adjustments.

BTW, I made the election to take that into income annually (and not all at once upon maturity). Don't know if that impacts how things are reported. I am interested to see how this all plays out.

In my state (NJ), it seems the accrued market discount on Treasuries is not taxable. I posted a link to a document from the state of NJ which appears to support this fact (well it specifically says capital gains on Treasuries are exempt from NJ income tax).

Lastly, thanks to Kevin for starting this separate thread.
Mike,

I too file in NJ. I am new to treasuries this year and am diving in. For NJ tax are all gains and losses associated with treasuries not to be reported in NJ return (using TurboTax )? In particular are capital losses for treasuries sold on the secondary market not reportable? It seems that on TurboTax one needs to track these un reportable gains/losses in NJ TT as they do not follow automatically from info input imported to TT from brokerages.

(Thanks Kevin for starting this thread)
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Re: Taxation of Treasury bills, notes and bonds

Post by MikeG62 »

ClassOf2021 wrote: Sun Nov 20, 2022 7:57 am
MikeG62 wrote: Fri Nov 18, 2022 9:04 am
cas wrote: Thu Nov 17, 2022 10:26 am
...State return: People are going to be unhappy to hear this, but Turbotax appeared to completely punt on what to do about accrued market discount on the state return for my state.

I don't want to get into the whole issue, discussed in other threads, of whether accrued market discount is or is not "treasury interest" that can be deducted on a state return. I'm just saying what Turbotax did which was ... apparently punt to the user of the software:
  • It did NOT ask whether the accrued market discount was associated with a Treasury and it did NOT automatically deduct it from the state return
  • I didn't find any area in the "interview" mode for the state tax return that seemed to have anythng to do with dealing with income from US Government Obligations.
  • However, I could go into Forms mode on the state return, go to the line on the state return where the adjustment for Treasury interest is entered, click down to a worksheet, and Turbotax showed two items for that line.

    The first item was not changable and showed interest officially designated as Treasury interest on some federal tax reporting form (e.g. Box 3 of 1099-INT.)

    The second item *was* changeable, said something like (I forgot to write down the exact wording) "Other interest from US Government Obligations that is deductible under <my state> state law and is not accounted for in the previous line". Click there, and it brought you yet another worksheet where you entered a description and amount. And,then, "poof" ... that amount was added to the line for US Government Obligation interest on the state tax return and deducted from state income.

    But that looked very much to be Turbotax punting and putting all the burden on the taxpayer to figure out and being liable to their own state tax authorities on how to deal with Treasury accrued market discount on the state tax return. I have no idea if the online version of Turtotax, which I don't think has a Forms mode, is even capable of the above maneuver.
This is very helpful actually.

I said in another thread that this is something I will deal with when preparing my tax return (using TT). Want to see how the info is imported by TT and how TT handles the amortization of the market discount. Your comments align with that I am expecting - users may have to make some adjustments.

BTW, I made the election to take that into income annually (and not all at once upon maturity). Don't know if that impacts how things are reported. I am interested to see how this all plays out.

In my state (NJ), it seems the accrued market discount on Treasuries is not taxable. I posted a link to a document from the state of NJ which appears to support this fact (well it specifically says capital gains on Treasuries are exempt from NJ income tax).

Lastly, thanks to Kevin for starting this separate thread.
Mike,

I too file in NJ. I am new to treasuries this year and am diving in. For NJ tax are all gains and losses associated with treasuries not to be reported in NJ return (using TurboTax )? In particular are capital losses for treasuries sold on the secondary market not reportable? It seems that on TurboTax one needs to track these un reportable gains/losses in NJ TT as they do not follow automatically from info input imported to TT from brokerages.

(Thanks Kevin for starting this thread)
I can't answer your question definitively since I am not a NJ state income tax expert. The document I referenced above is here:

https://www.state.nj.us/treasury/taxati ... e/git5.pdf

While it does not talk to accrued market discount specifically, it does say quite clearly (in my eyes anyway) that capital gains on Treasuries are exempt from NJ state income tax. I can't see any reason why the accrued market discount would be treated differently from capital gains (it seems to me that is precisely what it is).

Back to your question. I would *think* that if capital gains on Treasuries are exempt from NJ state income tax, then capital losses would be as well. Why would they be treated differently? But I do not know this 100% for sure.
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Re: Taxation of Treasury bills, notes and bonds

Post by ClassOf2021 »

Thanks Mike,

I have read git-5…sound like I am in the same boat as you (not a NJ tax expert).
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Re: Taxation of Treasury bills, notes and bonds

Post by Kevin M »

MikeG62 wrote: Sun Nov 20, 2022 7:21 am
Klewles wrote: Sun Nov 20, 2022 5:13 am
Electron wrote: Sat Nov 19, 2022 2:28 pm If the state tax exemption on accrued market discount is an issue in some states, I assume one could buy Treasuries selling at a premium instead. The coupon interest would generally be higher but the premium or amortized premium would be subtracted on Schedule B.
+1. That would seem to make it certain that all interest is excludable from state income. Furthermore, my experience is that Turbotax handles it correctly for both Federal and my state (CA) without any fuss, because the 1099-INT breaks out Treasury interest (box 3) and Treasury premium (box 12), allowing TT to make the correct calculation.
I'm surprised that the state tax exemption is an issue as one can often buy a Treasury at a discount or premium with similar yield-to-maturity.
It's an issue because in some states -- e.g., CA -- tax law is silent on what defines excludable Treasury interest. If I understand correctly, Federal law says that interest paid by Treasury is not taxable by any state. But market discount is not paid by Treasury, it's "paid" by the seller, so we're left to guess whether CA law regards it as taxable or not. I won't try to argue that it is or is not taxable -- the issue is that we have to argue it because CA law is silent. To avoid the issue, buy at a premium.
That's fine in theory, but maybe harder to execute in practice. More specifically, I am not sure one could find Treasuries selling at a premium in today's market, or if one could they would be very few and far in between. To do so, the coupon on that bond would have to be above the market interest rates for comparable term Treasuries. As an example, I've bought a crap ton of Treasuries in the secondary market this year with remaining maturities ranging from 3 months to 20 years and lots in between. I don't recall ever spotting one selling at a premium.
They exist, but most are priced at a discount.

Image

The problem with the high-price issues is that they have a high coupon, and for whatever reason may have a yield well below other Ts at same or similar maturity. Example: I see a price of 100.923 for 2/15/2023, with ask yield of 3.09%. There is a 2/15/2023 note with a yield of 4.25% (and price 99.475). I would not buy the lower yield just to avoid dealing with market discount, but maybe this is part of the reason the high-coupon yield is lower.

Kevin
If I make a calculation error, #Cruncher probably will let me know.
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Re: Taxation of Treasury bills, notes and bonds

Post by FactualFran »

Klewles wrote: Sun Nov 20, 2022 5:13 am It's an issue because in some states -- e.g., CA -- tax law is silent on what defines excludable Treasury interest. If I understand correctly, Federal law says that interest paid by Treasury is not taxable by any state. But market discount is not paid by Treasury, it's "paid" by the seller, so we're left to guess whether CA law regards it as taxable or not. I won't try to argue that it is or is not taxable -- the issue is that we have to argue it because CA law is silent. To avoid the issue, buy at a premium.
The relevant part of the law, 31 USC 3124, is
(a) Stocks and obligations of the United States Government are exempt from taxation by a State or political subdivision of a State. The exemption applies to each form of taxation that would require the obligation, the interest on the
obligation, or both, to be considered in computing a tax, except—

(1) a nondiscriminatory franchise tax or another nonproperty tax instead of a franchise tax, imposed on a corporation; and
(2) an estate or inheritance tax.
The law in not in terms of only the interest, but in terms of "the obligation, the interest on the obligation, or both". That seems to definitely cover the case of a Treasury security purchased at auction with a discount and held to maturity. Those who think that it does not apply when the purchase or sale is in a secondary market are free to do so.

Look at the instructions of the state and local income tax returns as to whether they are in terms of "interest" or in terms of what is included in the "interest income" that is reported on a federal income tax return. The interest income on a federal income tax return includes accrued discount.
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Re: Taxation of Treasury bills, notes and bonds

Post by Klewles »

FactualFran wrote: Sun Nov 20, 2022 4:25 pm Look at the instructions of the state and local income tax returns as to whether they are in terms of "interest" or in terms of what is included in the "interest income" that is reported on a federal income tax return. The interest income on a federal income tax return includes accrued discount.
For California, the instructions are in Pub 1001, Page 7:
Federal law requires the interest earned on federal bonds (U.S. obligations) to be included in gross income. California does not tax this interest income.
...
What to do for California: Enter the amount of federal bond interest included in federal income on Schedule CA (540), Part I, Section A or Schedule CA (540NR), Part II, Section A, line 2, column B.
The amount entered on CA(540) gets excluded from California income.

If I held Treasury bonds with market discount, I'd probably choose to interpret "federal bond interest" as including market discount, since it seems a reasonable interpretation. And my gut feel is I'd never have trouble with the FTB about it. But it does give me pause before I dive into buying Treasuries at discount.
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Re: Taxation of Treasury bills, notes and bonds

Post by Merry »

Kevin M wrote: Sat Nov 19, 2022 4:03 pm
Kookaburra wrote: Sat Nov 19, 2022 12:09 am If one buys a Tbill and sells on the secondary market before maturity, how do they know how much of the price discount left is interest vs capital gain/loss?
You can read about this in IRS pub 550:
Discount on Short-Term Obligations

When you buy a short-term obligation (one with a fixed maturity date of 1 year or less from the date of issue), other than a tax-exempt obligation, you generally can choose to include any discount and interest payable on the obligation in income currently. If you do not make this choice, the following rules generally apply.

You must treat any gain when you sell, exchange, or redeem the obligation as ordinary income, up to the amount of the ratable share of the discount. See Discounted Debt Instruments, later.
You can follow the link to see the methods that can be used to determine the ratable share of the discount.

When I sold bills before maturity in 2019 at Schwab, they reported the proceeds as short-term capital gain in the year end summary, not provided to the IRS on 1099-B. I have a spreadsheet in which I calculated the accrued acquisition discount, which I reported as interest, with the remainder being short-term capital gain. I'd have to fire up my 2019 HR Block software to see the details of exactly how I entered all of this.

Kevin
This is an immensely helpful thread- thank you to all for sharing your knowledge! Kevin, you sold a Tbill before maturity, why wouldn’t Schwab report it on 1099-B? When I asked Fidelity they informed me they’d report Tbills held to maturity as interest and Tbills sold before maturity as capital gains. I’m trying to interpret the IRS pub 550 section Kukkaburra shared, and am confused about the reference to ordinary income? I’ve read the entire thread and may have missed the straightforward answer- what should happen during the early sale of a secondary Tbill - what form and boxes should the brokerages send to the IRS and us? Thanks again!
Last edited by Merry on Mon Nov 21, 2022 1:54 pm, edited 1 time in total.
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Re: Taxation of Treasury bills, notes and bonds

Post by Merry »

FactualFran wrote: Sun Nov 20, 2022 4:25 pm
Klewles wrote: Sun Nov 20, 2022 5:13 am It's an issue because in some states -- e.g., CA -- tax law is silent on what defines excludable Treasury interest. If I understand correctly, Federal law says that interest paid by Treasury is not taxable by any state. But market discount is not paid by Treasury, it's "paid" by the seller, so we're left to guess whether CA law regards it as taxable or not. I won't try to argue that it is or is not taxable -- the issue is that we have to argue it because CA law is silent. To avoid the issue, buy at a premium.
The relevant part of the law, 31 USC 3124, is
(a) Stocks and obligations of the United States Government are exempt from taxation by a State or political subdivision of a State. The exemption applies to each form of taxation that would require the obligation, the interest on the
obligation, or both, to be considered in computing a tax, except—

(1) a nondiscriminatory franchise tax or another nonproperty tax instead of a franchise tax, imposed on a corporation; and
(2) an estate or inheritance tax.
The law in not in terms of only the interest, but in terms of "the obligation, the interest on the obligation, or both". That seems to definitely cover the case of a Treasury security purchased at auction with a discount and held to maturity. Those who think that it does not apply when the purchase or sale is in a secondary market are free to do so.

Look at the instructions of the state and local income tax returns as to whether they are in terms of "interest" or in terms of what is included in the "interest income" that is reported on a federal income tax return. The interest income on a federal income tax return includes accrued discount.
Colorado has an income tax guide with the following information. Would it be correct to interpret this to mean the accrued market discount on my Tnotes would be exempt from CO income tax? I’m honing in on “…as well as any income from stocks or obligations of the United States government.” Anyone have experience with this for Colorado? Thanks again for the excellent thread!

From: https://tax.colorado.gov/individual-income-tax-guide
“Income exempted from Colorado taxation
Various types of income are subject to federal income tax, and therefore included in federal taxable income, but fully or partially exempt from Colorado taxation. A subtraction is allowed for the following types of income, if included in a taxpayer’s federal taxable income, in order to fully or partially exempt this income from Colorado taxation.

Income from U.S. government obligations
A subtraction is allowed for certain types of income from U.S. government obligations to the extent such income is included in federal taxable income. The subtraction applies to interest income on obligations of the United States and its possessions, as well as any income from stocks or obligations of the United States government. No subtraction is allowed for any obligation or payment from the U.S. government for services rendered or for income from instruments issued by private financial institutions and guaranteed by the U.S. government. See Department publication FYI Income 20: U.S. Government Interest for additional information regarding this subtraction.”
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Re: Taxation of Treasury bills, notes and bonds

Post by Kevin M »

Merry wrote: Mon Nov 21, 2022 1:38 pm
Kevin M wrote: Sat Nov 19, 2022 4:03 pm
Kookaburra wrote: Sat Nov 19, 2022 12:09 am If one buys a Tbill and sells on the secondary market before maturity, how do they know how much of the price discount left is interest vs capital gain/loss?
You can read about this in IRS pub 550:
Discount on Short-Term Obligations

When you buy a short-term obligation (one with a fixed maturity date of 1 year or less from the date of issue), other than a tax-exempt obligation, you generally can choose to include any discount and interest payable on the obligation in income currently. If you do not make this choice, the following rules generally apply.

You must treat any gain when you sell, exchange, or redeem the obligation as ordinary income, up to the amount of the ratable share of the discount. See Discounted Debt Instruments, later.
You can follow the link to see the methods that can be used to determine the ratable share of the discount.

When I sold bills before maturity in 2019 at Schwab, they reported the proceeds as short-term capital gain in the year end summary, not provided to the IRS on 1099-B. I have a spreadsheet in which I calculated the accrued acquisition discount, which I reported as interest, with the remainder being short-term capital gain. I'd have to fire up my 2019 HR Block software to see the details of exactly how I entered all of this.

Kevin
This is an immensely helpful thread- thank you to all for sharing your knowledge! Kevin, you sold a Tbill before maturity, why wouldn’t Schwab report it on 1099-B? When I asked Fidelity they informed me they’d report Tbills held to maturity as interest and Tbills sold before maturity as capital gains. I’m trying to interpret the IRS pub 550 section Kukkaburra shared, and am confused about the reference to ordinary income? I’ve read the entire thread and may have missed the straightforward answer- what should happen during the early sale of a secondary Tbill - what form and boxes should the brokerages send to the IRS and us? Thanks again!
I don't know why the short-term capital gains were shown in a section not reported to the IRS, and not on 1099-B. Nevertheless, you are required to enter the info into form 8949, which the tax software does for you if you enter the info appropriately. In doing this, you handle the accrued acquisition discount so it shows up as interest on Schedule B, and the remainder is short-term capital gain reported on 8949 and Schedule D.

Kevin
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Re: Taxation of Treasury bills, notes and bonds

Post by Merry »

Kevin M wrote: Mon Nov 21, 2022 2:05 pm I don't know why the short-term capital gains were shown in a section not reported to the IRS, and not on 1099-B. Nevertheless, you are required to enter the info into form 8949, which the tax software does for you if you enter the info appropriately. In doing this, you handle the accrued acquisition discount so it shows up as interest on Schedule B, and the remainder is short-term capital gain reported on 8949 and Schedule D.

Kevin
Am I understanding this correctly to mean the only amount that would show up on the accrued acquisition discount for interest on Schedule B would be from other Tbills that went to maturity AND all of the gains from a Tbills sold before maturity would go toward short term capital gains on 8949 and Schedule D? Would those short term capital gains not be exempt from state tax as it is being reported on Schedule D vs Schedule B? Or does that not matter because it’s still linked to an obligation of the federal government and so if a state exempts such income then state taxes wouldn’t be owed on those short term capital gains?
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Re: Taxation of Treasury bills, notes and bonds

Post by Kevin M »

Merry wrote: Mon Nov 21, 2022 2:40 pm
Kevin M wrote: Mon Nov 21, 2022 2:05 pm I don't know why the short-term capital gains were shown in a section not reported to the IRS, and not on 1099-B. Nevertheless, you are required to enter the info into form 8949, which the tax software does for you if you enter the info appropriately. In doing this, you handle the accrued acquisition discount so it shows up as interest on Schedule B, and the remainder is short-term capital gain reported on 8949 and Schedule D.

Kevin
Am I understanding this correctly to mean the only amount that would show up on the accrued acquisition discount for interest on Schedule B would be from other Tbills that went to maturity AND all of the gains from a Tbills sold before maturity would go toward short term capital gains on 8949 and Schedule D? Would those short term capital gains not be exempt from state tax as it is being reported on Schedule D vs Schedule B? Or does that not matter because it’s still linked to an obligation of the federal government and so if a state exempts such income then state taxes wouldn’t be owed on those short term capital gains?
The last question is a main point that has not been resolved with certainty for all states. We have seen inputs that accrued acquisition discount seems to be deductible for some states.

I wouldn't worry too much about exactly where things are reported. The bottom line is that accrued acquisition discount is reported as interest on Schedule B, regardless of what 1099 form or supplemental section it's reported on/in. If there is any gain in addition to the accrued acquisition discount, it is reported on form 8949 and Schedule D.

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Re: Taxation of Treasury bills, notes and bonds

Post by FactualFran »

Kevin M wrote: Mon Nov 21, 2022 2:05 pm I don't know why the short-term capital gains were shown in a section not reported to the IRS, and not on 1099-B. Nevertheless, you are required to enter the info into form 8949, which the tax software does for you if you enter the info appropriately. In doing this, you handle the accrued acquisition discount so it shows up as interest on Schedule B, and the remainder is short-term capital gain reported on 8949 and Schedule D.
Treasury Bills are not covered by the regulations that requires brokers to report the basis to the IRS. According to a User Guide at the Treasury Direct web site:
A "covered" Treasury marketable security refers to a security that has been purchased on or after January 1, 2014.

A "non-covered" Treasury marketable security refers to a security that has been purchased prior to January 1, 2014. Treasury bills are considered non-covered Treasury marketable securities and are therefore excluded from reporting.
The taxpayer is responsible for determining how much of the difference between the proceeds and the purchase amount is taxed as interest with the rest taxed as a short-term capital gain or loss.
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Re: Taxation of Treasury bills, notes and bonds

Post by Kevin M »

^Thanks!
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Re: Taxation of Treasury bills, notes and bonds

Post by Electron »

Thanks all for the comments on the subject of Accrued Market Discount and any exemption for the state income tax. I just checked the Vanguard document that reports U.S. Government Income for 2021.

The Short Term, Intermediate Term, and Long Term Treasury Index funds all reported 100% of income from U.S. Government obligations. These funds would have had some amount of Accrued Market Discount and it is not being reported to shareholders. If any states intended to tax Accrued Market Discount with Treasury securities they would need reporting by mutual funds. This makes me feel a lot better about the situation.

On the subject of buying Treasuries at a premium, the rate hikes by the Federal Reserve have certainly had a major impact. Six months ago I bought several Treasuries in the secondary market and many securities were available selling at a premium or discount. Things have definitely changed since then.
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Re: Taxation of Treasury bills, notes and bonds

Post by Kevin M »

Electron wrote: Mon Nov 21, 2022 4:50 pm Thanks all for the comments on the subject of Accrued Market Discount and any exemption for the state income tax. I just checked the Vanguard document that reports U.S. Government Income for 2021.

The Short Term, Intermediate Term, and Long Term Treasury Index funds all reported 100% of income from U.S. Government obligations. These funds would have had some amount of Accrued Market Discount and it is not being reported to shareholders. If any states intended to tax Accrued Market Discount with Treasury securities they would need reporting by mutual funds. This makes me feel a lot better about the situation.
I raised the exact same argument in the thread in which this discussion started!
Kevin M wrote: Sat Nov 12, 2022 2:45 pm
msimon wrote: Sat Nov 12, 2022 11:44 am
Kevin M wrote:Here's a puzzle I'm left with. For tax year 2021, income distributions from both Vanguard intermediate-term and long-term Treasury index funds were 100% USGO, so 100% exempt from state income tax. The only non-income distribution was a long-term capital gain distribution. So I don't see any distributions that would account for accrued market discount. Here is a relevant footnote from the annual report for the int-term T index fund:
6. Other: Interest income includes income distributions received from Vanguard Market Liquidity
Fund and is accrued daily. Premiums and discounts on debt securities are amortized and accreted,
respectively, to interest income over the lives of the respective securities, except for premiums on
certain callable debt securities that are amortized to the earliest call date. Security transactions are
accounted for on the date securities are bought or sold. Costs used to determine realized gains
(losses) on the sale of investment securities are based on the average cost of the securities sold.
So as I understand it, discounts are accreted and included in interest income, which according to Vanguard literature is 100% USGO income.

Can you explain this?
Hi Kevin,

I don't know - it's a good question. I guess the question is how often will these funds be getting significant incoming cash flows that they must invest in bonds with large market discounts without buying an offsetting amount of bonds with amortizing premiums. If most of the cash flows that the funds have to invest are invested in new issues at auction there won't be too much market discount. If you think of a bond fund as being similar to a bond ladder assuming a stable AUM the fund most likely just invests in the longest maturity new issues as other bonds mature. A sudden increase in AUM would force a buying across a spectrum of maturities and be more likely to result in the purchase of bonds with significant market discounts.
<snip>
Good thought, but I don't think so. From memory, I recalled that turnover rate for bond funds is surprisingly high. Checking VSIGX, it was 59% for the year ending August 31, 2022.

There were only 12 auctions of 10-year notes in the year ending 9/30/2022, including reopenings, so I don't think we can assume that the bond fund works just like a rolling ladder nor that they buy only at auction; they appear to be buying and selling bonds on the secondary market, probably daily.

Note that at the most recent reopening of the 10-year on 10/12/2022, the price was 90.449122; this was originally auctioned on 08/10/2022 at a price of 99.956556. So even issues bought at reopenings can be quite heavily discounted.

I downloaded the holdings as of 9/30/2022, pulled in yield quotes for Treasuries from Fidelity, and calculated the prices based on a 9/30/2022 settlement date.

Just glancing at the first row, for a 7/31/2029 issue, coupon rate is 2.625%. We know Treasury yields are in the 4% ballpark, so this note/bond must be priced at a discount.

Average coupon rate for the fund is 2.16%, avg yield is 4.01%, and average price is 91.78. There are only 13 bonds priced at a premium (>100) out of 109 bonds in the fund.

I agree that calling Vanguard probably is pointless. I've tried before to get answers to detailed questions about bond fund numbers, and never have gotten an answer that actually answered my question. It answered a bunch of questions I didn't ask.

So, if accrued market discount is taxed as ordinary income, market discounts are accreted to income, and close to 100% of income is from USGO, we still have a bit of a mystery here.

Kevin
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Re: Taxation of Treasury bills, notes and bonds

Post by Blues »

To complicate matters somewhat further, though I am not positive of this...it appears that (at least some) states may treat individuals differently than business entities when it comes to the matter of market discount. At least, that seems to be where some of my (not exhaustive) research is leading.

So what might not be taxable to an individual in regard to market discount, may be taxable to the corporation.
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Re: Taxation of Treasury bills, notes and bonds

Post by 50/50 »

cas wrote:

"Complication 2: Figuring out what year's tax return to do all of the above upon.

The IRS doesn't want you subtracting the "accrued interest paid to seller" from your income until the tax year when you actually received the 6 months worth of interest to which it corresponds."


cas: Thank you for your post. Your explanation is much clearer than Pub. 550. I have noted on my purchases which year I should report the accrued interest. You probably saved me from making a reporting error. Much obliged.

Regards, 50/50
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Re: Taxation of Treasury bills, notes and bonds

Post by 50/50 »

Kevin M:

Thank you for starting this thread. I am following along with great interest and have already picked up some knowledge that will help me at tax time.
I appreciate your time and effort to help all of us.

Regards,

50/50
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Selling T Bill before maturity tax implications

Post by dan916 »

[Thread merged into here --admin LadyGeek]

Hi everyone. I have a good amount of realized loses from earlier this year. I have some T bills which mature soon and have a gain in them currently. If I sell them, would the gain be treated as a short term capital gain which I can use to offset some of my capital loses?

If I let them mature I will just pay tax on them at my regular tax rate (minus state). I would not want to pay this since I have a loss which I would like to balance out. Or would it still be treated as interest even if I sold them before maturity?

Thank you!
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Re: Selling T Bill before maturity tax implications

Post by Tubes »

See extensive information on this new thread that addresses this exact topic.

https://bogleheads.org/forum/viewtopic.php?t=390405
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Re: Selling T Bill before maturity tax implications

Post by dan916 »

sounds like even if I sell it its interest, but I would need to adjust it on my own return. The brokerage will not classify it. Sounds like PIA
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Re: Selling T Bill before maturity tax implications

Post by Tubes »

It is one reason I like to buy Bills at Auction and hold to maturity. Easy peasey.
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Re: Taxation of Treasury bills, notes and bonds

Post by Kevin M »

50/50 wrote: Tue Nov 22, 2022 10:54 am cas wrote:

"Complication 2: Figuring out what year's tax return to do all of the above upon.

The IRS doesn't want you subtracting the "accrued interest paid to seller" from your income until the tax year when you actually received the 6 months worth of interest to which it corresponds."


cas: Thank you for your post. Your explanation is much clearer than Pub. 550. I have noted on my purchases which year I should report the accrued interest. You probably saved me from making a reporting error. Much obliged.

Regards, 50/50
I used a CPA one year, and he included all of the accrued interest paid in that tax year, even though some of the Treasuries didn't pay interest in that tax year. He made lots of other mistakes which I corrected, but I let this one slide, and never got a correction notice from the IRS. I did get a correction notice from the CA FTB with respect to another mistake he made that I had called out, but that he didn't change.
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Re: Taxation of Treasury bills, notes and bonds

Post by LadyGeek »

I merged dan916's thread into the ongoing discussion.

(Thanks to the member who reported the post and provided a link to this thread.)
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Re: Selling T Bill before maturity tax implications

Post by Kevin M »

dan916 wrote: Tue Nov 22, 2022 1:13 pm sounds like even if I sell it its interest, but I would need to adjust it on my own return. The brokerage will not classify it. Sounds like PIA
Part of it is interest and part short-term capital gain. I needed to figure out the interest part, but it wasn't that that complicated. It does take more work than just plugging numbers from a 1099 into tax software.
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Re: Selling T Bill before maturity tax implications

Post by curmudgeon »

Tubes wrote: Tue Nov 22, 2022 1:32 pm It is one reason I like to buy Bills at Auction and hold to maturity. Easy peasey.
After running into some of this tax messiness one year, I decided to limit my holdings on the taxable side to CDs, tbills, and funds which have simpler tax reporting. I buy secondary market bonds only in tax deferred accounts. This requires a bit of adjustment in how I manage our holdings, but it makes tax filing easier.
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Re: Selling T Bill before maturity tax implications

Post by Kevin M »

curmudgeon wrote: Tue Nov 22, 2022 6:32 pm
Tubes wrote: Tue Nov 22, 2022 1:32 pm It is one reason I like to buy Bills at Auction and hold to maturity. Easy peasey.
After running into some of this tax messiness one year, I decided to limit my holdings on the taxable side to CDs, tbills, and funds which have simpler tax reporting. I buy secondary market bonds only in tax deferred accounts. This requires a bit of adjustment in how I manage our holdings, but it makes tax filing easier.
Since this thread is intended to help people with their tax reporting, would you mind sharing the tax reporting difficulties you encountered?

It is not an issue for bills bought on secondary if you hold to maturity--all accrued acquisition discount (aka interest) is reported in box 3 of 1099-INT. There are only complications if you sell before maturity.

For notes and bonds sold before maturity, accrued market discount and adjusted capital gain or loss is shown either on 1099-B or in a supplemental 1099 section, so in a way tax reporting is easier for notes and bonds sold before maturity than bills sold before maturity.

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Re: Selling T Bill before maturity tax implications

Post by curmudgeon »

Kevin M wrote: Tue Nov 22, 2022 7:11 pm
curmudgeon wrote: Tue Nov 22, 2022 6:32 pm
Tubes wrote: Tue Nov 22, 2022 1:32 pm It is one reason I like to buy Bills at Auction and hold to maturity. Easy peasey.
After running into some of this tax messiness one year, I decided to limit my holdings on the taxable side to CDs, tbills, and funds which have simpler tax reporting. I buy secondary market bonds only in tax deferred accounts. This requires a bit of adjustment in how I manage our holdings, but it makes tax filing easier.
Since this thread is intended to help people with their tax reporting, would you mind sharing the tax reporting difficulties you encountered?

It is not an issue for bills bought on secondary if you hold to maturity--all accrued acquisition discount (aka interest) is reported in box 3 of 1099-INT. There are only complications if you sell before maturity.

For notes and bonds sold before maturity, accrued market discount and adjusted capital gain or loss is shown either on 1099-B or in a supplemental 1099 section, so in a way tax reporting is easier for notes and bonds sold before maturity than bills sold before maturity.

Kevin
It's been a few years, so I don't remember much detail. I don't think it was especially complex, and has probably been covered in this thread, but I think I was annoyed that I was having to dig numbers out of the supplemental brokerage statement and slot them into the tax software without feeling fully knowledgeable of how they were being used.

The fixed income in our taxable account is generally targeted for spending in the next 5-7 years. If it weren't for the tax reporting, I might buy some 3-5 year TIPS in that taxable account, but I value simplicity over exact planning. If our taxable account comprised the bulk of our investments, I'd be more ready to deal with the extra work in tracking and reporting taxes for individual bonds. For now, tbills and CDs held to maturity, alongside some short/ultrashort bond funds work well enough for my purposes in taxable while medium term TIPS and bonds go in tax-deferred.
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Re: Taxation of Treasury bills, notes and bonds

Post by Kevin M »

^Thanks for sharing that.
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Re: Taxation of Treasury bills, notes and bonds

Post by Merry »

Kevin M wrote: Mon Nov 21, 2022 2:55 pm
Merry wrote: Mon Nov 21, 2022 2:40 pm
Kevin M wrote: Mon Nov 21, 2022 2:05 pm I don't know why the short-term capital gains were shown in a section not reported to the IRS, and not on 1099-B. Nevertheless, you are required to enter the info into form 8949, which the tax software does for you if you enter the info appropriately. In doing this, you handle the accrued acquisition discount so it shows up as interest on Schedule B, and the remainder is short-term capital gain reported on 8949 and Schedule D.

Kevin
Am I understanding this correctly to mean the only amount that would show up on the accrued acquisition discount for interest on Schedule B would be from other Tbills that went to maturity AND all of the gains from a Tbills sold before maturity would go toward short term capital gains on 8949 and Schedule D? Would those short term capital gains not be exempt from state tax as it is being reported on Schedule D vs Schedule B? Or does that not matter because it’s still linked to an obligation of the federal government and so if a state exempts such income then state taxes wouldn’t be owed on those short term capital gains?
The last question is a main point that has not been resolved with certainty for all states. We have seen inputs that accrued acquisition discount seems to be deductible for some states.

I wouldn't worry too much about exactly where things are reported. The bottom line is that accrued acquisition discount is reported as interest on Schedule B, regardless of what 1099 form or supplemental section it's reported on/in. If there is any gain in addition to the accrued acquisition discount, it is reported on form 8949 and Schedule D.

Kevin
I was linking the Schedules used in my mind because for the accrued acquisition discount for Tbills that mature, and Tnote coupon and accrued market discount, that all is reported with Schedule B. The Tbills sold before maturity are reported with Schedule D and that in my mind was triggering the question of whether that was somehow a capital gain that we couldn’t link to a government obligation. But from your answer I think you’re saying the Schedule isn’t relevant to the state tax question. So would it be fair to say that if I am going to interpret what my state says as not taxing government obligations then it would not matter Tbill or T note held to maturity or sold before maturity, it’s all government obligation so I would use that as my justification of not state taxable? The only difference is what forms I need to use to report it? Thanks for the discussion.
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Re: Taxation of Treasury bills, notes and bonds

Post by Kevin M »

Merry wrote: Wed Nov 23, 2022 12:59 pm
Kevin M wrote: Mon Nov 21, 2022 2:55 pm
Merry wrote: Mon Nov 21, 2022 2:40 pm
Kevin M wrote: Mon Nov 21, 2022 2:05 pm I don't know why the short-term capital gains were shown in a section not reported to the IRS, and not on 1099-B. Nevertheless, you are required to enter the info into form 8949, which the tax software does for you if you enter the info appropriately. In doing this, you handle the accrued acquisition discount so it shows up as interest on Schedule B, and the remainder is short-term capital gain reported on 8949 and Schedule D.

Kevin
Am I understanding this correctly to mean the only amount that would show up on the accrued acquisition discount for interest on Schedule B would be from other Tbills that went to maturity AND all of the gains from a Tbills sold before maturity would go toward short term capital gains on 8949 and Schedule D? Would those short term capital gains not be exempt from state tax as it is being reported on Schedule D vs Schedule B? Or does that not matter because it’s still linked to an obligation of the federal government and so if a state exempts such income then state taxes wouldn’t be owed on those short term capital gains?
The last question is a main point that has not been resolved with certainty for all states. We have seen inputs that accrued acquisition discount seems to be deductible for some states.

I wouldn't worry too much about exactly where things are reported. The bottom line is that accrued acquisition discount is reported as interest on Schedule B, regardless of what 1099 form or supplemental section it's reported on/in. If there is any gain in addition to the accrued acquisition discount, it is reported on form 8949 and Schedule D.

Kevin
I was linking the Schedules used in my mind because for the accrued acquisition discount for Tbills that mature, and Tnote coupon and accrued market discount, that all is reported with Schedule B. The Tbills sold before maturity are reported with Schedule D and that in my mind was triggering the question of whether that was somehow a capital gain that we couldn’t link to a government obligation. But from your answer I think you’re saying the Schedule isn’t relevant to the state tax question. So would it be fair to say that if I am going to interpret what my state says as not taxing government obligations then it would not matter Tbill or T note held to maturity or sold before maturity, it’s all government obligation so I would use that as my justification of not state taxable? The only difference is what forms I need to use to report it? Thanks for the discussion.
If you hold a bill to maturity, the accrued acquisition discount is reported by the broker as interest in box 3 of form 1099-INT, which flows to Schedule B. It also might be reported on 1099-B, but if so, the basis and proceeds are the same, so no gain or loss.

Selling the bill before maturity is what results in the supplemental 1099 info for reporting on form 8949 and Schedule B.

Note and bond coupon payments are included in 1099-INT box 3 USGO interest.

Regarding your question, if you sell before maturity, accrued market or acquisition discount ends up on Schedule B, but there could still be some capital gain or loss that ends up on Schedule D.
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Individual bond purchases and tax loss harvesting

Post by ny10036 »

[Thread merged into here --admin LadyGeek]

Hi.

From what I've read, it seems tax loss harvesting with equities can only be applied to offset capital gains and NOT dividends.

Can it be applied to offset gains from the sale of a bond with a coupon before its maturity?

In viewtopic.php?p=6974605, I discovered that hypothetical, accrued interest is included in the sale price of a treasury bond before it matures.

Extending on that example, let's say I purchased one unit of 1 year treasury notes with 2% yield on the date it was issued for $1000. Then some days before it matures, let's say I manage to sell it for $1019.

For tax purposes, is this a capital gain that can be offset with capital losses? Or is this still considered a dividend?
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Re: Taxation of Treasury bills, notes and bonds

Post by Klewles »

Curious if anybody has ever chosen the option to report all interest as OID. This is summarized in Pub 550, page 16:
Election to Report All Interest as OID: Generally, you can elect to treat all interest on a debt instrument acquired during the tax year as OID and include it in income currently. For purposes of this election, interest includes stated interest, acquisition discount, OID, de minimis OID, market discount, de minimis market discount, and unstated interest as adjusted by any amortizable bond premium or acquisition premium. See Regulations section 1.1272-3.
Details are given in the mentioned regulations and in Pub 1212, page 9, "Constant yield method."

For Treasuries held to maturity, the method is appealing for its elegance and uniformity across different cases (premium, market discount, de minimis, bills, notes, bonds, TIPS, STRIPS, etc.). However, it means the interest reported each year is going to be different than what the 1099's show, and the mismatch might cause hassle with the IRS. Also, it converts de minimis cap gain to interest, not usually desirable.

Thoughts?
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Re: Taxation of Treasury bills, notes and bonds

Post by LadyGeek »

I merged ny10036's thread into the ongoing discussion.

(Thanks to the member who reported the post and provided a link to this thread.)
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Re: Individual bond purchases and tax loss harvesting

Post by Artsdoctor »

ny10036 wrote: Wed Nov 23, 2022 10:26 pm [Thread merged into here --admin LadyGeek]

Hi.

From what I've read, it seems tax loss harvesting with equities can only be applied to offset capital gains and NOT dividends.

Can it be applied to offset gains from the sale of a bond with a coupon before its maturity?

In viewtopic.php?p=6974605, I discovered that hypothetical, accrued interest is included in the sale price of a treasury bond before it matures.

Extending on that example, let's say I purchased one unit of 1 year treasury notes with 2% yield on the date it was issued for $1000. Then some days before it matures, let's say I manage to sell it for $1019.

For tax purposes, is this a capital gain that can be offset with capital losses? Or is this still considered a dividend?
If you purchased a note at par and sell it at 1.019, you'll have a capital gain. You'll also have interest from the coupon. The interest from the coupon(s) will be taxable at the federal level but not the state level; the gain can be offset by any other losses you might have but if you have no losses, the gain will be taxable at both federal and state levels (if you live in a state with personal income tax).
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Re: Individual bond purchases and tax loss harvesting

Post by Kevin M »

Artsdoctor wrote: Fri Nov 25, 2022 9:17 am
ny10036 wrote: Wed Nov 23, 2022 10:26 pm [Thread merged into here --admin LadyGeek]

Hi.

From what I've read, it seems tax loss harvesting with equities can only be applied to offset capital gains and NOT dividends.

Can it be applied to offset gains from the sale of a bond with a coupon before its maturity?

In viewtopic.php?p=6974605, I discovered that hypothetical, accrued interest is included in the sale price of a treasury bond before it matures.

Extending on that example, let's say I purchased one unit of 1 year treasury notes with 2% yield on the date it was issued for $1000. Then some days before it matures, let's say I manage to sell it for $1019.

For tax purposes, is this a capital gain that can be offset with capital losses? Or is this still considered a dividend?
If you purchased a note at par and sell it at 1.019, you'll have a capital gain. You'll also have interest from the coupon. The interest from the coupon(s) will be taxable at the federal level but not the state level; the gain can be offset by any other losses you might have but if you have no losses, the gain will be taxable at both federal and state levels (if you live in a state with personal income tax).
To further clarify, accrued interest is not hypothetical--you actually own it, and when you sell you get it from the buyer. Accrued Treasury interest is taxed like any other Treasury interest, and is reported by the broker in box 3 of 1099-INT for the year of sale.

Accrued interest is broken out in a section not reported to the IRS. Here's how Schwab did it in 2019:

Image

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Re: Taxation of Treasury bills, notes and bonds

Post by Electron »

My Treasury purchases this year will have only minor impact on my tax return. Treasury Bill interest, Treasury Note interest from coupons, and Treasury Note Accrued Market Discount will be entered on Schedule B, Line 1. There will also be a subtraction for Accrued Interest paid.

The terms "Accrued Market Discount" and "Accrued Interest" will be entered on the appropriate lines.

All Treasury Interest and Treasury Accrued Market Discount will be excluded for the state tax return.

If anyone is interested in the tax reporting for zero coupon Treasuries, here is some information.

https://finance.zacks.com/tax-treasury-strips-7266.html

It looks like the imputed interest earned each year is reported on Form 1099-OID. The site has a section on state income taxes and indicates that the imputed Treasury interest is also exempt for the state tax.
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Re: Taxation of Treasury bills, notes and bonds

Post by GaryA505 »

If buying Treasuries in Jan 2023, the only way to avoid any taxable income in 2023 is buying TBills at auction and hold until maturity in 2024?
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Re: Taxation of Treasury bills, notes and bonds

Post by Kevin M »

GaryA505 wrote: Mon Nov 28, 2022 12:36 am If buying Treasuries in Jan 2023, the only way to avoid any taxable income in 2023 is buying TBills at auction and hold until maturity in 2024?
I can't think of why you'd need to buy them at auction. If you buy Tbills on secondary in Jan 2023 that mature in Jan 2024, and you hold until maturity, no interest is reported until Jan 2024.

But, it probably makes sense to buy them at auction. The Jan 2023 52-week bill auction settles on Thursday, Jan 26. You could buy them on secondary on Thursday, Friday, or Monday, and have settlement in Jan 2023, but why bother?
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Re: Taxation of Treasury bills, notes and bonds

Post by Tubes »

Yes, and the only Bill that works for that scenario is the 52 wk. Shorter durations (obviously) won't work.

Notes will pay interest every 6 months, so a 2 year Note bought in January will have an interest event in 2023.
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