You may not have thought about them in a while, but US savings bonds are still around. In general, the taxation of these bonds is fairly straightforward. But sometimes the simple things can trip up a taxpayer.
In T.C. Summary Opinion 2015-17 (Lobs), the taxpayer purchased US savings bonds for her son in 1992. The bonds were issued in her then-husband’s name, with the taxpayer listed as co-owner.
In September 2010 the taxpayer redeemed the bonds by endorsing each bond and furnishing her taxpayer identification number. The proceeds of $12,640 were deposited into her credit union account. Immediately thereafter, at the taxpayer’s direction, the credit union issued a cashier’s check in the son’s name for the same amount. The son negotiated the check and used the proceeds.
The taxpayer did not report the accrued interest on the bonds ($7,640) on her tax return. Since the bonds had been purchased for her son and she gave him all the proceeds, she believed they belonged to him.
The IRS said the taxpayer was the registered owner of the bonds. Since she was entitled to receive the proceeds and did receive the proceeds, the interest was taxable to her.
The court agreed with the IRS, saying the taxpayer may very well have regarded the bonds as “her son’s bonds”, as demonstrated by her instruction to the credit union to issue a cashier’s check to her son upon the redemption. However, her instruction underscored the fact that she was the person who was entitled to receive, and did in fact receive, the proceeds. The court said such instruction gave rise to a postredemption gift by the taxpayer to her son of cash equal to the amount of the bond proceeds; it was not indicative of any ownership interest of the son in the bonds themselves.
A tax planning tip: Minors can be the registered owners of US savings bonds. If you purchase bonds in your child’s name, you’ll generally report the interest on your child’s tax return.
No federal income tax will be due unless your child has total income in a single year equal to the threshold amount that requires a return. However, be aware of the kiddie tax rules, which can apply until age 24 if your child is a full-time student and you provide more than 50% of support. These rules say if your child is under age 19, unearned income (including dividends and interest) over a specified threshold will be taxed at your rate. If your child is 18 or older (or 24 or older if a full-time student), the interest income will be taxed at your child’s rate.
Are you familiar with other tax rules that apply to savings bonds?
Interest earned on US savings bonds is taxable on your federal income tax return but exempt from state and local taxation.
Cash basis taxpayers are generally required to report income when received. However, you can choose to wait to report savings bond interest until the bond matures or when you redeem or dispose of the bond.
The “education exclusion” allows you to exclude from your income the interest earned on redeemed savings bonds. In order to claim the exclusion for bonds redeemed and used for your child’s education, one requirement is that the bond must be in the parent’s name.
You can use your federal income tax refund to purchase US savings bonds.
If you inherit a bond, in the year you report the bond interest on your return you can claim a deduction for the federal estate tax that was paid on the interest included in the decedent’s estate.
The rule is you report the interest when the bond matures or when you redeem or dispose of the bond, whichever comes first. That means if you intend to hold the bond after it stops earning interest, you’re supposed to report the accrued interest on your tax return in the year of maturity.
To exclude interest earnings on Series EE and Series I bonds issued after 1989, you must be at least 24 years old before the bond’s issue date. Since a bond’s issue date is the first day of the month in which you buy the bond, you must be 24 years old before the first day of the month in which the bond is purchased. Also, if you’re married, you must file a joint return in order to exclude the bond interest from income.
Complete Form 8888, Allocation of Refund (Including Bond Purchases), to buy up to $5,000 of US Series I savings bonds in any single calendar year.
In addition, depending on the election made by the estate’s representative, you may choose to continue to defer interest on bonds distributed to you “in-kind” until the year the bonds are cashed or disposed of or the year they mature, whichever is earlier.