Accrued Market Discount on Treasury bonds

You'll receive a 1099-INT each year with an amount in box 3 for the interest earned on your treasuries as well as an amount in box 10 for the market discount.  You'll enter those each year as they appear.

If you choose to defer reporting the market discount then you will not report the amount in box 10.  You will save the forms for each year and when you sell or redeem the obligations you will report the total for all of the box 10s that you received while you held the treasuries.  Make sure to save those forms if you are planning to do that, however.

@spichon 

I'm not an expert, but I can tell you what I saw in my case with Fidelity Investments. If the T-Bill has a coupon amount, the Accrued Market Discount will be reported on your 1099-B as a capital gain, and the coupon interest on your 1099-INT. TurboTax then converts the Accrued Market Discount gain into interest and includes it on your Schedule B. If the T-Bill is zero-coupon, the Accrued Market Discount is reported as interest on your 1099-INT. I have no idea why this is how's it's done, but I have multiple T-bill purchase/sales this year done this way.

In regards to your state taxes, in most (if not all) states US Government interest is non-taxable at the state level. Unfortunately, TurboTax does not correctly pass the Accrued Market Discount thru properly to the state form. Trying to figure out this problem is why I'm searching the forums at this point.

Exactly what I'm seeing. Accrued Market Discount is transfer to the Alabama Schedule B as taxable interest.

Yes.  Having exact same issue, everything you said.  Except Notes vs. Bills.  My 1099B is from Schwab, but like yours it reports the Accrued Market Discount as a 1099-B adjustment and passes it to Schedule B.  So it gets reported correctly on Federal, but doesn't not get properly passed to the State for the subtraction.  With the caveat, not all states, allow it to be excluded from state taxable income, but many, including mine definitely do.

I've searched forums as well, without result.  I've also tried populated fictious 1099-INT's (putting ALL Treasury income in Line 3).  But that doesn't work for me, because as you described, the 1099-B still passes the Accrued Market Discount to Schedule B (resulting in a doubling for Federal).

So far, the only solution I can see is to override the subtraction on the state return.  Making sure it includes that Accrued Market Discount.  I'm trying to find out: 1)if this will preclude state e-filing, and 2) if there is a better alternative.  Thanks for posting, you perfectly described the same issue as I'm having.

I can fix it. I can go to the state Interest Income Statement and manually move the Accrued Market Discount amount from the Regular Interest  column to the U.S. Government Interest column and everything works. My problem is I cannot find out if this is taxable in Alabama or not. No one knows...no one.

As I understand,  that the IRS requires accrued market discount to be reported on Form 1099-B as a capital gain for zero-coupon T-bills and some coupon T-bills, while the coupon interest is reported on Form 1099-INT. Is it right?

All my T-Bills reported Interest in box 3 of the 1099-INT. The only one that is causing problems was the Note. It makes no difference to federal taxes, the confusion is state taxes. I'm new to Treasuries and apparently have a lot to learn.

I have two 2024 1099-INT statements from Fidelity Investments that include the Accrued Market Discount on the purchase/sale of US T-bills in box 3 as US Government interest. In both cases, the T-bills being reported were zero coupon. I have Accrued Market Discount on several other US T-bills that did have coupon interest. The Accrued Market Discount for these were reported by Fidelity Investments on 1099-B as short-term gain, and the coupon interest was reported in box 3 of the 1099-INT. There may be an explanation for this different treatment, but I'm not sure what it would be. It just seems like a lot of confusion to me.

After the end of the tax year, your financial institution or the bond issuer should send you a Form 1099-INT reporting all the taxable and tax-exempt interest you received during the year. Typically, interest from corporate bonds will be in Box 1, interest from U.S. Treasuries will be in Box 3, and tax-exempt interest from muni bonds will be in Box 8.

If you buy a bond when it is issued and hold it until maturity, you generally won't have a capital gain or loss. However, if you sell the bond before its maturity date for more than you paid for it, you'll typically have a capital gain. If you sell it for less than you paid for it, you'll usually have a capital loss.  After the end of the tax year, your financial institution will send you a Form 1099-B reporting any bond sales that took place during the year.

If you have Accrued Market Discount in Box 1f on your 1099-B, enter the accrued market discount in TurboTax and do not check anything on the next page. The accrued market discount is then treated as ordinary interest on Schedule B, and is also added to the basis, thus only taxed as ordinary interest. The D code is present on column 1f of form 8949.

Here's more detailed info in Guide to Investment Bonds you may find helpful.

[Edited 2/21/2024 | 11:33 am]

@Greg Brown 

So my CPA contact tells me that Accrued Market Discount is not state taxable. TT never asks if it comes from a Treasury or something else. So it probably doesn't know and treats it as taxable interest.

My Market Discount does not show up in INT Box 10. It shows up on Schedule B Part I.

I am having the same issue. I bought a treasury bond in 2022 and it matured in 2023 and the "gain" should be tax exempt, but TurboTax is including it in my state interest line with no way to adjust. Very frustrating

As @MarilynG1 states TurboTax will use the amount of Accrued Market Discount entered in box 1f to increase cost basis on the sale and put a corresponding amount of interest on Schedule B as ordinary interest.  

For US Treasury Obligations, instead of putting the Accrued Market Discount in box 1f, use the cost basis adjustment box when entering the 1099B information to enter the amount for the bond sale.  Then make a 1099-Int entry in "Investments" for the brokerage and put the corresponding amount in box 3 for US Treasury Obligations.  

If your state does not tax those US obligations then the amount from box 3 will show as a deduction from federal AGI on the state forms automatically.  

As an alternative, can I adjust the entries on any one of my 1099-INT and move the amount I need to adjust from box 1 to Box 3 ? That will not impact my federal return and will remove the adjustment amount from my state tax. Does anyone see any issues with me doing this? This appears like the easiest way to adjust the state interest taxable income without impacting federal.

Yes, if all the other entries have already been made for a Treasury bond sale including the Accrued Market Discount in box 1f which put US Treasury interest on Schedule B as "Ordinary Interest," then you can move a corresponding box 1 amount to box 3 on any 1099-INT.  That will keep the federal tax the same and populate the state forms with the US Treasury interest as applicable. 

Trying to avoid altering the entries from the 1099-int I opted to post the Accrued Market Discount on Schedule B as is and made a manual adjustment in the same amount on the California State,  Schedule CA (Int/Div Adj wks) line 12 column B and tagged it with an explanation.  Would that be acceptable?  Thanks

Sure.

@spichon 

You can solve this by going to the 1099INT for your brokerage and selecting "Bond Premium for treasury obligations" from the check boxes under the section "Adjustments to Interest".  Enter your Accrued Market Discount" as a negative number on the line "Enter adjustment amount".

This will add the Accrued Market Discount as a positive number to your Schedule B and will treat the amount appropriately for your State return.

NOTE:

1. Make sure to enter zero on the worksheet titled "Capital Gains (Loss) Adjustments Worksheet" in the last section, in the entry "Accrued interest to Schedule B".

2. Make sure you do not check the box "Sale includes an accrued market discount". This adds the accrued market discount to State and Federal income.

In California, accrued market discount on Treasury bonds is ordinary income and taxable. I recently made the following inquiry to the Franchise Tax Board and there response follows:

Is "accrued market discount" for treasury bonds taxable as interest for California income tax. Please sight the code that establishes how it's treated. Thank you

Our response:

California generally conforms to Internal Revenue Code (IRC) sections 1276 and 1278 via Revenue and Taxation Code (RTC) section 18151. IRC section 1278 provides the definition of a market discount bond, which does not exclude US Treasury bonds. Under IRC section 1276, the portion of the gain on the disposition of a bond that represents accrued market discount is ordinary income that is recognized and is treated as interest except in certain specified circumstances. US Treasury bonds are not one of the enumerated exceptions. Therefore, the accrued market discount portion of the gain would be ordinary income that must be reported as taxable interest income even if the underlying bond is a US Treasury bond. The accrued market discount portion of the gain does not represent tax-exempt interest earned on a federal obligation.

Turbotax handle the data entry correctly.

I feel lucky that incomed earned from treasuries is tax exempt in my state.

Leave it to California to take every tax dollar they can get. Explains why TurboTax handles Accrued Market Discount the way it does, which unfortunately is incorrect for most other states.

I received the following question yesterday:

"Is the conclusion that T-bonds purchased at a discount have the taxed at maturity, including at the state level and therefore it's suboptimal to purchase T-bonds at a market discount in the secondary market?"

Yes, in California, this is generally correct,  but you should calculate the actual after-tax return of investment to make this determination, or buy the bond close to par.

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@tfgatlin wrote:

I can fix it. I can go to the state Interest Income Statement and manually move the Accrued Market Discount amount from the Regular Interest  column to the U.S. Government Interest column and everything works. My problem is I cannot find out if this is taxable in Alabama or not. No one knows...no one.

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How do you fix this in TurboTax 2023? I don't see the "state Interest Income Statement" as one of my form (in the forms section or even if I save all worksheets in PDF). The best I can figure out is to mark the discount as a subtraction in the "other"-item of the CA-adjustments. My Treasures interest is marked as subtraction in Schedule CA-adjustments in the "interest"-item and I would have liked to adjust that subtraction to include the discount but TT does not let you do that. So only alternative I can see is to add the subtraction to the "other"-item.