In my example, if the investor help the bond to maturity using a 3.5% tax rate than his cost basis would be 100. I now think 3.4% is the right interest rate. This means that if the investor holds the bond to maturity his cost basis would be less than 100. The difference is not a capital gain but Market Discount Interest which is fully taxable.
However, I admit I am not sure of my facts.
