What Is Original Issue Discount?
An original issue discount (OIDs) is the discount in the price of a bond from its face value at the time it is first issued. The term initially referred to the fact that the issuer of a bond pays less than par value for the bond. This type of discount is offered because the issuer wants to sell the bond at a discounted price. In addition, investors like to buy bonds at a discount because they want to receive interest payments sooner rather than later. Denver business attorneys have prepared the article below to provide information regarding (OID), but please consult directly with your tax advisors regarding your specific facts and circumstances.
Discounted Debt Instruments
Generally, you should (or will) report OID as income as it accrues over the term of any debt instruments, even if you do not receive any payment(s) of the actual interest from the party paying the debt or interest. A debt instrument could be a promissory note, bond, debenture, or any other evidence of indebtedness based upon the facts and circumstances. You may typically see a debt instrument have OID when the debt instrument was issued for less than the stated redemption price. A debt instrument that pays no interest before the instrument matures would likely be issued at a discount. The following are examples of discounted debt instruments.
- Municipal Bonds (interest may not be taxable)
- Notes between individuals or private parties
- United States Treasury Bonds
- Stripped Bonds
- Certificates of Deposit (CODs)
How an Original Issue Discount Works
An original issue discount (OID), sometimes called a premium, is the amount of money investors pay over the face value of a bond. This extra payment is often referred to as a “premium.” An OID works like this: Investors buy bonds at a specific price and receive periodic interest payments. At the end of the term, the investors are given a payoff equal to the face value of the bond. But what happens if the bond doesn’t reach maturity? In that case, the investor keeps the total purchase price plus the accrued interest.
This is where the OID comes into play. If the bond matures, the investor receives the total face value of the bond plus the accrued interest. But if it does not mature, the investor still receives the total purchase price minus the accrued interest. So how much did you pay for the bond? You paid the face value plus the accrued interest. And that’s why the OID exists.
Original Issue Discount Example
An example may help illustrate the discount and interest amount. If a bank issues a bond with a maturity price of $1,000 for $900, the original issue discount is $100, and the discount would be included in income as it accrues over the bond term. Please note, if the discount is less than one-quarter of an interest percentage (.0025), the discount may be considered de minimis discount and treated as zero.
Exceptions to Reporting an Original Issue Discount
Many people would ask if there are any exceptions to reporting OID income. The OID may not apply to the debt instruments below, but please always check current laws and regulations with your tax attorney or advisors.
- United Savings Bond
- Tax Exempt Obligations
- Debt instruments with a fixed maturity date less than one year from the date of issuance (short-term debt instruments)
- Obligations issued by an individual before March 2, 1984
- A loan between individuals if the loan and any other prior loans between the same individuals is less than $10,000 (USD), the individual lending the money is not in the business or regularly lending money, and the primary purpose of the loan is not to avoid federal income tax.
Is 1099-Original Issue Discount issued?
Form 1099-OID is used to report an original issue discount (OID), which is the difference between the face value of an instrument and its current market value. This includes bonds, notes, certificates, and other obligations having terms longer than one year. You must file Form 1099-O ID if you are required to include OID in your taxable gross income. If the total of the OID is $10 or greater, the party issuing the debt instrument should issue a 1099-OID.
Questions About an Original Issue Discount? Contact Us!
You can speak with a tax attorney or Denver business attorney with questions related to interest and OID by contacting The McGuire Law Firm. Call 720-833-7705 to discuss your matters with a tax attorney.