taxmap/pubs/p550-002.htm#TXMP2ebdf9c0
Interest Income(p5)

taxmap/pubs/p550-002.htm#TXMP29fc8f7b
Note.Exempt-interest dividends paid from specified private activity bonds may be subject to the alternative minimum tax. The exempt-interest dividends subject to the alternative minimum tax are shown in box 9 of Form 1099-INT. See Form 6251 and its instructions for more information about this tax. (Private activity bonds are discussed later under State or Local Government Obligations.)

taxmap/pubs/p550-002.htm#TXMP06ee53f2 Interest on VA dividends.(p5)

Interest on insurance dividends that you leave on deposit with the Department of Veterans Affairs (VA) is not taxable. This includes interest paid on dividends on converted United States Government Life Insurance policies and on National Service Life Insurance policies.

taxmap/pubs/p550-002.htm#TXMP38ca2f6d Individual retirement arrangements (IRAs).(p5)

Interest on a Roth IRA generally is not taxable. Interest on a traditional IRA is tax deferred. You generally do not include it in your income until you make withdrawals from the IRA. See Publication 590 for more information.

taxmap/pubs/p550-002.htm#TXMP7fadb975 Taxable Interest — General(p5)

Taxable Interest — General

Taxable interest includes interest you receive from bank accounts, loans you make to others, and other sources. The following are some sources of taxable interest.

taxmap/pubs/p550-002.htm#TXMP693d79c9 Dividends that are actually interest.(p5)

Certain distributions commonly called dividends are actually interest. You must report as interest so-called "dividends" on deposits or on share accounts in:

• Cooperative banks,
• Credit unions,
• Domestic building and loan associations,
• Domestic savings and loan associations,
• Federal savings and loan associations, and
• Mutual savings banks.

taxmap/pubs/p550-002.htm#TXMP04637195 Money market funds.(p5)

Generally, amounts you receive from money market funds should be reported as dividends, not as interest.

taxmap/pubs/p550-002.htm#TXMP12cd860a Certificates of deposit and other deferred interest accounts.(p5)

If you open any of these accounts, interest may be paid at fixed intervals of 1 year or less during the term of the account. You generally must include this interest in your income when you actually receive it or are entitled to receive it without paying a substantial penalty. The same is true for accounts that mature in 1 year or less and pay interest in a single payment at maturity. If interest is deferred for more than 1 year, see Original Issue Discount (OID), later.

taxmap/pubs/p550-002.htm#TXMP2d5b19e8 Interest subject to penalty for early withdrawal.(p5)

If you withdraw funds from a deferred interest account before maturity, you may have to pay a penalty. You must report the total amount of interest paid or credited to your account during the year, without subtracting the penalty. See Penalty on early withdrawal of savings under How To Report Interest Income, later, for more information on how to report the interest and deduct the penalty.

taxmap/pubs/p550-002.htm#TXMP5f233b33 Money borrowed to invest in certificate of deposit.(p5)

The interest you pay on money borrowed from a bank or savings institution to meet the minimum deposit required for a certificate of deposit from the institution and the interest you earn on the certificate are two separate items. You must report the total interest you earn on the certificate in your income. If you itemize deductions, you can deduct the interest you pay as investment interest, up to the amount of your net investment income. See Interest Expenses in chapter 3.

taxmap/pubs/p550-002.htm#TXMP2c573436
Example.(p5)

You deposited $5,000 with a bank and borrowed $5,000 from the bank to make up the $10,000 minimum deposit required to buy a 6-month certificate of deposit. The certificate earned $575 at maturity in 2007, but you received only $265, which represented the $575 you earned minus $310 interest charged on your $5,000 loan. The bank gives you a Form 1099-INT for 2007 showing the $575 interest you earned. The bank also gives you a statement showing that you paid $310 interest for 2007. You must include the $575 in your income. If you itemize your deductions on Schedule A (Form 1040), you can deduct $310, subject to the net investment income limit.

taxmap/pubs/p550-002.htm#TXMP59835950 Gift for opening account.(p5)

If you receive noncash gifts or services for making deposits or for opening an account in a savings institution, you may have to report the value as interest.

For deposits of less than $5,000, gifts or services valued at more than $10 must be reported as interest. For deposits of $5,000 or more, gifts or services valued at more than $20 must be reported as interest. The value is determined by the cost to the financial institution.

taxmap/pubs/p550-002.htm#TXMP7c855895
Example.(p6)

You open a savings account at your local bank and deposit $800. The account earns $20 interest. You also receive a $15 calculator. If no other interest is credited to your account during the year, the Form 1099-INT you receive will show $35 interest for the year. You must report $35 interest income on your tax return.

taxmap/pubs/p550-002.htm#TXMP2735e64e Interest on insurance dividends.(p6)

Interest on insurance dividends left on deposit with an insurance company that can be withdrawn annually is taxable to you in the year it is credited to your account. However, if you can withdraw it only on the anniversary date of the policy (or other specified date), the interest is taxable in the year that date occurs.

taxmap/pubs/p550-002.htm#TXMP5b29f705 Prepaid insurance premiums.(p6)

Any increase in the value of prepaid insurance premiums, advance premiums, or premium deposit funds is interest if it is applied to the payment of premiums due on insurance policies or made available for you to withdraw.

taxmap/pubs/p550-002.htm#TXMP4920eeb3 U.S. obligations.(p6)

Interest on U.S. obligations, such as U.S. Treasury bills, notes, and bonds, issued by any agency or instrumentality of the United States is taxable for federal income tax purposes.

taxmap/pubs/p550-002.htm#TXMP1233bcae Interest on tax refunds.(p6)

Interest you receive on tax refunds is taxable income.

taxmap/pubs/p550-002.htm#TXMP7038b351 Interest on condemnation award.(p6)

If the condemning authority pays you interest to compensate you for a delay in payment of an award, the interest is taxable.

taxmap/pubs/p550-002.htm#TXMP39aa999c Installment sale payments.(p6)

If a contract for the sale or exchange of property provides for deferred payments, it also usually provides for interest payable with the deferred payments. That interest is taxable when you receive it. If little or no interest is provided for in a deferred payment contract, part of each payment may be treated as interest. See Unstated Interest and Original Issue Discount in Publication 537.

taxmap/pubs/p550-002.htm#TXMP550a7262 Interest on annuity contract.(p6)

Accumulated interest on an annuity contract you sell before its maturity date is taxable.

taxmap/pubs/p550-002.htm#TXMP70af78a6 Usurious interest.(p6)

Usurious interest is interest charged at an illegal rate. This is taxable as interest unless state law automatically changes it to a payment on the principal.

taxmap/pubs/p550-002.htm#TXMP61ddf13c Interest income on frozen deposits.(p6)

Exclude from your gross income interest on frozen deposits. A deposit is frozen if, at the end of the year, you cannot withdraw any part of the deposit because:

• The financial institution is bankrupt or insolvent, or
• The state in which the institution is located has placed limits on withdrawals because other financial institutions in the state are bankrupt or insolvent.

The amount of interest you must exclude is the interest that was credited on the frozen deposits minus the sum of:

• The net amount you withdrew from these deposits during the year, and
• The amount you could have withdrawn as of the end of the year (not reduced by any penalty for premature withdrawals of a time deposit).

If you receive a Form 1099-INT for interest income on deposits that were frozen at the end of 2007, see Frozen deposits under How To Report Interest Income for information about reporting this interest income exclusion on your tax return.

The interest you exclude is treated as credited to your account in the following year. You must include it in income in the year you can withdraw it.

taxmap/pubs/p550-002.htm#TXMP536b7b5e
Example.(p6)

$100 of interest was credited on your frozen deposit during the year. You withdrew $80 but could not withdraw any more as of the end of the year. You must include $80 in your income and exclude $20 from your income for the year. You must include the $20 in your income for the year you can withdraw it.

taxmap/pubs/p550-002.htm#TXMP7e7fd60a Bonds traded flat.(p6)

If you buy a bond at a discount when interest has been defaulted or when the interest has accrued but has not been paid, the transaction is described as trading a bond flat. The defaulted or unpaid interest is not income and is not taxable as interest if paid later. When you receive a payment of that interest, it is a return of capital that reduces the remaining cost basis of your bond. Interest that accrues after the date of purchase, however, is taxable interest income for the year received or accrued. See Bonds Sold Between Interest Dates, later in this chapter.

taxmap/pubs/p550-002.htm#TXMP42211225 Below-Market Loans(p6)

Below-Market Loans

If you make a below-market gift or demand loan, you must report as interest income any forgone interest (defined later) from that loan. The below-market loan rules and exceptions are described in this section. For more information, see section 7872 of the Internal Revenue Code and its regulations.

If you receive a below-market loan, you may be able to deduct the forgone interest as well as any interest that you actually paid, but not if it is personal interest.

taxmap/pubs/p550-002.htm#TXMP1cb690a9 Loans subject to the rules.(p6)

The rules for below-market loans apply to:

• Gift loans,
• Pay-related loans,
• Corporation-shareholder loans,
• Tax avoidance loans, and
• Certain loans made to qualified continuing care facilities under a continuing care contract.

A pay-related loan is any below-market loan between an employer and an employee or between an independent contractor and a person for whom the contractor provides services.

A tax avoidance loan is any below-market loan where the avoidance of federal tax is one of the main purposes of the interest arrangement.

taxmap/pubs/p550-002.htm#TXMP3ed8c5d5 Forgone interest.(p6)

For any period, forgone interest is:

• The amount of interest that would be payable for that period if interest accrued on the loan at the applicable federal rate and was payable annually on December 31, minus
• Any interest actually payable on the loan for the period.

taxmap/pubs/p550-002.htm#TXMP5b9b969b Applicable federal rate.(p6)

Applicable federal rates are published by the IRS each month in the Internal Revenue Bulletin. Some IRS offices have these bulletins available for research. See chapter 5 for other ways to get this information.

taxmap/pubs/p550-002.htm#TXMP26b29708 Rules for below-market loans.(p6)

The rules that apply to a below-market loan depend on whether the loan is a gift loan, demand loan, or term loan.

taxmap/pubs/p550-002.htm#TXMP38436cac Gift and demand loans.(p6)

A gift loan is any below-market loan where the forgone interest is in the nature of a gift.

A demand loan is a loan payable in full at any time upon demand by the lender. A demand loan is a below-market loan if no interest is charged or if interest is charged at a rate below the applicable federal rate.

A demand loan or gift loan that is a below-market loan is generally treated as an arm's-length transaction in which the lender is treated as having made:

• A loan to the borrower in exchange for a note that requires the payment of interest at the applicable federal rate, and
• An additional payment to the borrower in an amount equal to the forgone interest.

The borrower is generally treated as transferring the additional payment back to the lender as interest. The lender must report that amount as interest income.

The lender's additional payment to the borrower is treated as a gift, dividend, contribution to capital, pay for services, or other payment, depending on the substance of the transaction. The borrower may have to report this payment as taxable income, depending on its classification.

These transfers are considered to occur annually, generally on December 31.

taxmap/pubs/p550-002.htm#TXMP54ffb044 Term loans.(p6)

A term loan is any loan that is not a demand loan. A term loan is a below-market loan if the amount of the loan is more than the present value of all payments due under the loan.

A lender who makes a below-market term loan other than a gift loan is treated as transferring an additional lump-sum cash payment to the borrower (as a dividend, contribution to capital, etc.) on the date the loan is made. The amount of this payment is the amount of the loan minus the present value, at the applicable federal rate, of all payments due under the loan. An equal amount is treated as original issue discount (OID). The lender must report the annual part of the OID as interest income. The borrower may be able to deduct the OID as interest expense. See Original Issue Discount (OID), later.

taxmap/pubs/p550-002.htm#TXMP143e910d Exceptions to the below-market loan rules.(p7)

Exceptions to the below-market loan rules are discussed here.

taxmap/pubs/p550-002.htm#TXMP356a51d7 Exception for loans of $10,000 or less.(p7)

The rules for below-market loans do not apply to any day on which the total outstanding amount of loans between the borrower and lender is $10,000 or less. This exception applies only to:

1. Gift loans between individuals if the gift loan is not directly used to buy or carry income-producing assets, and
2. Pay-related loans or corporation-shareholder loans if the avoidance of federal tax is not a principal purpose of the interest arrangement.

This exception does not apply to a term loan described in (2) above that previously has been subject to the below-market loan rules. Those rules will continue to apply even if the outstanding balance is reduced to $10,000 or less.

taxmap/pubs/p550-002.htm#TXMP135a05ca Exception for loans to continuing care facilities.(p7)

Loans to qualified continuing care facilities under continuing care contracts are not subject to the rules for below-market loans for the calendar year if the lender or the lender's spouse is age 62 or older at the end of the year. For the definitions of qualified continuing care facility and continuing care contract, see Internal Revenue Code section 7872(h).

taxmap/pubs/p550-002.htm#TXMP5e630ab8 Exception for loans without significant tax effect.(p7)

Loans are excluded from the below-market loan rules if their interest arrangements do not have a significant effect on the federal tax liability of the borrower or the lender. These loans include:

1. Loans made available by the lender to the general public on the same terms and conditions that are consistent with the lender's customary business practice,
2. Loans subsidized by a federal, state, or municipal government that are made available under a program of general application to the public,
3. Certain employee-relocation loans,
4. Certain loans from a foreign person, unless the interest income would be effectively connected with the conduct of a U.S. trade or business and would not be exempt from U.S. tax under an income tax treaty,
5. Gift loans to a charitable organization, contributions to which are deductible, if the total outstanding amount of loans between the organization and lender is $250,000 or less at all times during the tax year, and
6. Other loans on which the interest arrangement can be shown to have no significant effect on the federal tax liability of the lender or the borrower.

For a loan described in (6) above, all the facts and circumstances are used to determine if the interest arrangement has a significant effect on the federal tax liability of the lender or borrower. Some factors to be considered are:

• Whether items of income and deduction generated by the loan offset each other,
• The amount of these items,
• The cost to you of complying with the below-market loan rules, if they were to apply, and
• Any reasons other than taxes for structuring the transaction as a below-market loan.

If you structure a transaction to meet this exception, and one of the principal purposes of structuring the transaction in that way is the avoidance of federal tax, the loan will be considered a tax-avoidance loan and this exception will not apply.

taxmap/pubs/p550-002.htm#TXMP29dbbf9c Limit on forgone interest for gift loans of $100,000 or less.(p7)

For gift loans between individuals, if the outstanding loans between the lender and borrower total $100,000 or less, the forgone interest to be included in income by the lender and deducted by the borrower is limited to the amount of the borrower's net investment income for the year. If the borrower's net investment income is $1,000 or less, it is treated as zero. This limit does not apply to a loan if the avoidance of federal tax is one of the main purposes of the interest arrangement.

taxmap/pubs/p550-002.htm#TXMP408a042d Effective dates.(p7)

These rules apply to term loans made after June 6, 1984, and to demand loans outstanding after that date.

taxmap/pubs/p550-002.htm#TXMP5297092a U.S. Savings Bonds(p7)

U.S. Savings Bonds

This section provides tax information on U.S. savings bonds. It explains how to report the interest income on these bonds and how to treat transfers of these bonds.

U.S. savings bonds currently offered to individuals are the following.

• Series EE bonds
• Series I bonds

For other information on U.S. savings bonds, write to:    For Series HH/H: Bureau of the Public Debt  Division of Customer Assistance  P.O. Box 2186  Parkersburg, WV 26106-2186.     For Series EE and I Bureau of the Public Debt  Division of Customer Assistance  P.O. Box 7012  Parkersburg, WV 26106-7012.

Or, on the Internet, visit: www.treasurydirect.gov/indiv/products/products.htm/.

taxmap/pubs/p550-002.htm#TXMP17f5ce70 Accrual method taxpayers.(p7)

If you use an accrual method of accounting, you must report interest on U.S. savings bonds each year as it accrues. You cannot postpone reporting interest until you receive it or until the bonds mature.

taxmap/pubs/p550-002.htm#TXMP3eb9c0dc Cash method taxpayers.(p7)

If you use the cash method of accounting, as most individual taxpayers do, you generally report the interest on U.S. savings bonds when you receive it. But see Series EE and series I bonds, below.

taxmap/pubs/p550-002.htm#TXMP76c343dc Series HH bonds.(p7)

These bonds were issued at face value. Interest is paid twice a year by direct deposit to your bank account. If you are a cash method taxpayer, you must report interest on these bonds as income in the year you receive it.

Series HH bonds were first offered in 1980; they were last offered in August 2004. Before 1980, series H bonds were issued. Series H bonds are treated the same as series HH bonds. If you are a cash method taxpayer, you must report the interest when you receive it.

Series H bonds have a maturity period of 30 years. Series HH bonds mature in 20 years.

taxmap/pubs/p550-002.htm#TXMP52bf82e7 Series EE and series I bonds.(p7)

Interest on these bonds is payable when you redeem the bonds. The difference between the purchase price and the redemption value is taxable interest.

taxmap/pubs/p550-002.htm#TXMP1c89b15a Series EE bonds.(p7)

Series EE bonds were first offered in January 1980. They have a maturity period of 30 years. Before July 1980, series E bonds were issued. The original 10-year maturity period of series E bonds has been extended to 40 years for bonds issued before December 1965 and 30 years for bonds issued after November 1965. Paper series EE and series E bonds are issued at a discount. The face value is payable to you at maturity. Electronic series EE bonds are issued at their face value. The face value plus accrued interest is payable to you at maturity.

Owners of paper series E and EE bonds can convert them to electronic bonds. These converted bonds do not retain the denomination listed on the paper certificate but are posted at their purchase price (with accrued interest).

taxmap/pubs/p550-002.htm#TXMP7be91aee Series I bonds.(p7)

Series I bonds were first offered in 1998. These are inflation-indexed bonds issued at their face amount with a maturity period of 30 years. The face value plus all accrued interest is payable to you at maturity.

taxmap/pubs/p550-002.htm#TXMP35fdffbc Reporting options for cash method taxpayers.(p7)

If you use the cash method of reporting income, you can report the interest on series EE, series E, and series I bonds in either of the following ways.

1. Method 1. Postpone reporting the interest until the earlier of the year you cash or dispose of the bonds or the year in which they mature. (However, see Savings bonds traded, later.) 
   Note. Series E bonds issued in 1977 matured in 2007. If you have used method 1, you generally must report the interest on these bonds on your 2007 return.
2. Method 2. Choose to report the increase in redemption value as interest each year.

 
You must use the same method for all series EE, series E, and series I bonds you own. If you do not choose method 2 by reporting the increase in redemption value as interest each year, you must use method 1.

If you plan to cash your bonds in the same year that you will pay for higher educational expenses, you may want to use method 1 because you may be able to exclude the interest from your income. To learn how, see Education Savings Bond Program, later.

taxmap/pubs/p550-002.htm#TXMP3af6fef2 Change from method 1.(p8)

If you want to change your method of reporting the interest from method 1 to method 2, you can do so without permission from the IRS. In the year of change, you must report all interest accrued to date and not previously reported for all your bonds.

Once you choose to report the interest each year, you must continue to do so for all series EE, series E, and series I bonds you own and for any you get later, unless you request permission to change, as explained next.

taxmap/pubs/p550-002.htm#TXMP11dbad33 Change from method 2.(p8)

To change from method 2 to method 1, you must request permission from the IRS. Permission for the change is automatically granted if you send the IRS a statement that meets all the following requirements.

1. You have typed or printed at the top, "Change in Method of Accounting Under Section 6.01 of the Appendix of Rev. Proc. 2002-9" (or later update).
2. It includes your name and social security number under the label in (1).
3. It identifies the savings bonds for which you are requesting this change.
4. It includes your agreement to:
   1. Report all interest on any bonds acquired during or after the year of change when the interest is realized upon disposition, redemption, or final maturity, whichever is earliest, and
   2. Report all interest on the bonds acquired before the year of change when the interest is realized upon disposition, redemption, or final maturity, whichever is earliest, with the exception of the interest reported in prior tax years.
5. It includes your signature.

You must attach this statement to your tax return for the year of change, which you must file by the due date (including extensions).

You can have an automatic extension of 6 months from the due date of your return for the year of change (excluding extensions) to file the statement with an amended return. At the top of the statement, enter "Filed pursuant to section 301.9100-2." To get this extension, you must have filed your original return for the year of the change by the due date (including extensions).

By the date you file the original statement with your return, you must also send a copy to the address below. Internal Revenue Service  Attention: CC:IT&A (Automatic Rulings Branch)  P.O. Box 7604  Benjamin Franklin Station  Washington, DC 20044.

If you use a private delivery service, send the copy to the address below.

Internal Revenue Service 
Attention: CC:IT&A (Automatic Rulings Branch) 
1111 Constitution Avenue, NW 
Washington, DC 20224.

Instead of filing this statement, you can request permission to change from method 2 to method 1 by filing Form 3115. In that case, follow the form instructions for an automatic change. No user fee is required.

taxmap/pubs/p550-002.htm#TXMP65fda25c Co-owners.(p8)

If a U.S. savings bond is issued in the names of co-owners, such as you and your child or you and your spouse, interest on the bond is generally taxable to the co-owner who bought the bond.

taxmap/pubs/p550-002.htm#TXMP016e4e5d One co-owner's funds used.(p8)

If you used your funds to buy the bond, you must pay the tax on the interest. This is true even if you let the other co-owner redeem the bond and keep all the proceeds. Under these circumstances, since the other co-owner will receive a Form 1099-INT at the time of redemption, the other co-owner must provide you with another Form 1099-INT showing the amount of interest from the bond that is taxable to you. The co-owner who redeemed the bond is a "nominee." See Nominee distributions under How To Report Interest Income, later, for more information about how a person who is a nominee reports interest income belonging to another person.

taxmap/pubs/p550-002.htm#TXMP2dfdce02 Both co-owners' funds used.(p8)

If you and the other co-owner each contribute part of the bond's purchase price, the interest is generally taxable to each of you, in proportion to the amount each of you paid.

taxmap/pubs/p550-002.htm#TXMP4ad4023c Community property.(p8)

If you and your spouse live in a community property state and hold bonds as community property, one-half of the interest is considered received by each of you. If you file separate returns, each of you generally must report one-half of the bond interest. For more information about community property, see Publication 555, Community Property.

taxmap/pubs/p550-002.htm#TXMP35d71cf9 Table 1-2.(p8)

These rules are also shown in Table 1-2.

taxmap/pubs/p550-002.htm#TXMP005eabc7 Child as only owner.(p8)

Interest on U.S. savings bonds bought for and registered only in the name of your child is income to your child, even if you paid for the bonds and are named as beneficiary. If the bonds are series EE, series E, or series I bonds, the interest on the bonds is income to your child in the earlier of the year the bonds are cashed or disposed of or the year the bonds mature, unless your child chooses to report the interest income each year.

taxmap/pubs/p550-002.htm#TXMP572eda69 Choice to report interest each year.(p8)

The choice to report the accrued interest each year can be made either by your child or by you for your child. This choice is made by filing an income tax return that shows all the interest earned to date, and by stating on the return that your child chooses to report the interest each year. Either you or your child should keep a copy of this return.

Unless your child is otherwise required to file a tax return for any year after making this choice, your child does not have to file a return only to report the annual accrual of U.S. savings bond interest under this choice. However, see Tax on investment income of a child under age 18, earlier, under General Information. Neither you nor your child can change the way you report the interest unless you request permission from the IRS, as discussed earlier under Change from method 2.

taxmap/pubs/p550-002.htm#TXMP178bdbf5 Ownership transferred.(p8)

If you bought series E, series EE, or series I bonds entirely with your own funds and had them reissued in your co-owner's name or beneficiary's name alone, you must include in your gross income for the year of reissue all interest that you earned on these bonds and have not previously reported. But, if the bonds were reissued in your name alone, you do not have to report the interest accrued at that time.

This same rule applies when bonds (other than bonds held as community property) are transferred between spouses or incident to divorce.

taxmap/pubs/p550-002.htm#TXMP33245bdc
Example.(p8)

You bought series EE bonds entirely with your own funds. You did not choose to report the accrued interest each year. Later, you transfer the bonds to your former spouse under a divorce agreement. You must include the deferred accrued interest, from the date of the original issue of the bonds to the date of transfer, in your income in the year of transfer. Your former spouse includes in income the interest on the bonds from the date of transfer to the date of redemption.

taxmap/pubs/p550-002.htm#g15093r03

Table 1-2. Who Pays the Tax on U.S. Savings Bond Interest IF ... THEN the interest must be reported by ... you buy a bond in your name and the name of another person as co-owners, using only your own funds you. you buy a bond in the name of another person, who is the sole owner of the bond the person for whom you bought the bond. you and another person buy a bond as co-owners, each contributing part of the purchase price both you and the other co-owner, in proportion to the amount each paid for the bond. you and your spouse, who live in a community property state, buy a bond that is community property you and your spouse. If you file separate returns, both you and your spouse generally report one-half of the interest.

taxmap/pubs/p550-002.htm#TXMP61c6907f Purchased jointly.(p8)

If you and a co-owner each contributed funds to buy series E, series EE, or series I bonds jointly and later have the bonds reissued in the co-owner's name alone, you must include in your gross income for the year of reissue your share of all the interest earned on the bonds that you have not previously reported. The former co-owner does not have to include in gross income at the time of reissue his or her share of the interest earned that was not reported before the transfer. This interest, however, as well as all interest earned after the reissue, is income to the former co-owner.

This income-reporting rule also applies when the bonds are reissued in the name of your former co-owner and a new co-owner. But the new co-owner will report only his or her share of the interest earned after the transfer.

If bonds that you and a co-owner bought jointly are reissued to each of you separately in the same proportion as your contribution to the purchase price, neither you nor your co-owner has to report at that time the interest earned before the bonds were reissued.

taxmap/pubs/p550-002.htm#TXMP29ef0994
Example 1.(p9)

You and your spouse each spent an equal amount to buy a $1,000 series EE savings bond. The bond was issued to you and your spouse as co-owners. You both postpone reporting interest on the bond. You later have the bond reissued as two $500 bonds, one in your name and one in your spouse's name. At that time neither you nor your spouse has to report the interest earned to the date of reissue.

taxmap/pubs/p550-002.htm#TXMP62fa595c
Example 2.(p9)

You bought a $1,000 series EE savings bond entirely with your own funds. The bond was issued to you and your spouse as co-owners. You both postponed reporting interest on the bond. You later have the bond reissued as two $500 bonds, one in your name and one in your spouse's name. You must report half the interest earned to the date of reissue.

taxmap/pubs/p550-002.htm#TXMP06f6a0f0 Transfer to a trust.(p9)

If you own series E, series EE, or series I bonds and transfer them to a trust, giving up all rights of ownership, you must include in your income for that year the interest earned to the date of transfer if you have not already reported it. However, if you are considered the owner of the trust and if the increase in value both before and after the transfer continues to be taxable to you, you can continue to defer reporting the interest earned each year. You must include the total interest in your income in the year you cash or dispose of the bonds or the year the bonds finally mature, whichever is earlier.

The same rules apply to previously unreported interest on series EE or series E bonds if the transfer to a trust consisted of series HH or series H bonds you acquired in a trade for the series EE or series E bonds. See Savings bonds traded, later.

taxmap/pubs/p550-002.htm#TXMP5489f943 Decedents.(p9)

The manner of reporting interest income on series E, series EE, or series I bonds, after the death of the owner, depends on the accounting and income-reporting methods previously used by the decedent.

taxmap/pubs/p550-002.htm#TXMP47c92d1d Decedent who reported interest each year.(p9)

If the bonds transferred because of death were owned by a person who used an accrual method, or who used the cash method and had chosen to report the interest each year, the interest earned in the year of death up to the date of death must be reported on that person's final return. The person who acquires the bonds includes in income only interest earned after the date of death.

taxmap/pubs/p550-002.htm#TXMP5f008d05 Decedent who postponed reporting interest.(p9)

If the transferred bonds were owned by a decedent who had used the cash method and had not chosen to report the interest each year, and who had bought the bonds entirely with his or her own funds, all interest earned before death must be reported in one of the following ways.

1. The surviving spouse or personal representative (executor, administrator, etc.) who files the final income tax return of the decedent can choose to include on that return all of the interest earned on the bonds before the decedent's death. The person who acquires the bonds then includes in income only interest earned after the date of death.
2. If the choice in (1) is not made, the interest earned up to the date of death is income in respect of the decedent. It should not be included in the decedent's final return. All of the interest earned both before and after the decedent's death (except any part reported by the estate on its income tax return) is income to the person who acquires the bonds. If that person uses the cash method and does not choose to report the interest each year, he or she can postpone reporting it until the year the bonds are cashed or disposed of or the year they mature, whichever is earlier. In the year that person reports the interest, he or she can claim a deduction for any federal estate tax that was paid on the part of the interest included in the decedent's estate.

For more information on income in respect of a decedent, see Publication 559, Survivors, Executors, and Administrators.

taxmap/pubs/p550-002.htm#TXMP78a2a913
Example 1.(p9)

Your uncle, a cash method taxpayer, died and left you a $1,000 series EE bond. He had bought the bond for $500 and had not chosen to report the interest each year. At the date of death, interest of $200 had accrued on the bond and its value of $700 was included in your uncle's estate. Your uncle's executor chose not to include the $200 accrued interest in your uncle's final income tax return. The $200 is income in respect of the decedent.

You are a cash method taxpayer and do not choose to report the interest each year as it is earned. If you cash the bond when it reaches maturity value of $1,000, you report $500 interest income—the difference between maturity value of $1,000 and the original cost of $500. For that year, you can deduct (as a miscellaneous itemized deduction not subject to the 2%-of-adjusted-gross-income limit) any federal estate tax paid because the $200 interest was included in your uncle's estate.

taxmap/pubs/p550-002.htm#TXMP55bcaae9
Example 2.(p9)

If, in Example 1, the executor had chosen to include the $200 accrued interest in your uncle's final return, you would report only $300 as interest when you cashed the bond at maturity. $300 is the interest earned after your uncle's death.

taxmap/pubs/p550-002.htm#TXMP62db9d79
Example 3.(p9)

If, in Example 1, you make or have made the choice to report the increase in redemption value as interest each year, you include in gross income for the year you acquire the bond all of the unreported increase in value of all series E, series EE, and series I bonds you hold, including the $200 on the bond you inherited from your uncle.

taxmap/pubs/p550-002.htm#TXMP01d58414
Example 4.(p9)

When your aunt died, she owned series H bonds that she had acquired in a trade for series E bonds. You were the beneficiary of these bonds. Your aunt used the cash method and did not choose to report the interest on the series E bonds each year as it accrued. Your aunt's executor chose not to include any interest earned before your aunt's death on her final return.

The income in respect of the decedent is the sum of the unreported interest on the series E bonds and the interest, if any, payable on the series H bonds but not received as of the date of your aunt's death. You must report any interest received during the year as income on your return. The part of the interest that was payable but not received before your aunt's death is income in respect of the decedent and may qualify for the estate tax deduction. For information on when to report the interest on the series E bonds traded, see Savings bonds traded, later.

taxmap/pubs/p550-002.htm#TXMP2dda4f10 Savings bonds distributed from a retirement or profit-sharing plan.(p9)

If you acquire a U.S. savings bond in a taxable distribution from a retirement or profit-sharing plan, your income for the year of distribution includes the bond's redemption value (its cost plus the interest accrued before the distribution). When you redeem the bond (whether in the year of distribution or later), your interest income includes only the interest accrued after the bond was distributed. To figure the interest reported as a taxable distribution and your interest income when you redeem the bond, see Worksheet for savings bonds distributed from a retirement or profit-sharing plan under How To Report Interest Income, later.

taxmap/pubs/p550-002.htm#TXMP1da19c4c Savings bonds traded.(p9)

If you postponed reporting the interest on your series EE or series E bonds, you did not recognize taxable income when you traded the bonds for series HH or series H bonds, unless you received cash in the trade. (You cannot trade series I bonds for series HH bonds. After August 31, 2004, you cannot trade any other series of bonds for series HH bonds.) Any cash you received is income up to the amount of the interest earned on the bonds traded. When your series HH or series H bonds mature, or if you dispose of them before maturity, you report as interest the difference between their redemption value and your cost. Your cost is the sum of the amount you paid for the traded series EE or series E bonds plus any amount you had to pay at the time of the trade.

taxmap/pubs/p550-002.htm#TXMP377f793c
Example.(p9)

In 2004, you traded series EE bonds (on which you postponed reporting the interest) for $2,500 in series HH bonds and $223 in cash. You reported the $223 as taxable income in 2004, the year of the trade. At the time of the trade, the series EE bonds had accrued interest of $523 and a redemption value of $2,723. You hold the series HH bonds until maturity, when you receive $2,500. You must report $300 as interest income in the year of maturity. This is the difference between their redemption value, $2,500, and your cost, $2,200 (the amount you paid for the series EE bonds). (It is also the difference between the accrued interest of $523 on the series EE bonds and the $223 cash received on the trade.)

taxmap/pubs/p550-002.htm#TXMP0cf5504b Choice to report interest in year of trade.(p10)

You could have chosen to treat all of the previously unreported accrued interest on series EE or series E bonds traded for series HH bonds as income in the year of the trade. If you made this choice, it is treated as a change from method 1. See Change from method 1 under Series EE and series I bonds, earlier.

taxmap/pubs/p550-002.htm#TXMP067914e0 Form 1099-INT for U.S. savings bond interest.(p10)

When you cash a bond, the bank or other payer that redeems it must give you a Form 1099-INT if the interest part of the payment you receive is $10 or more. Box 3 of your Form 1099-INT should show the interest as the difference between the amount you received and the amount paid for the bond. However, your Form 1099-INT may show more interest than you have to include on your income tax return. For example, this may happen if any of the following are true.

• You chose to report the increase in the redemption value of the bond each year. The interest shown on your Form 1099-INT will not be reduced by amounts previously included in income.
• You received the bond from a decedent. The interest shown on your Form 1099-INT will not be reduced by any interest reported by the decedent before death, or on the decedent's final return, or by the estate on the estate's income tax return.
• Ownership of the bond was transferred. The interest shown on your Form 1099-INT will not be reduced by interest that accrued before the transfer.
• You were named as a co-owner and the other co-owner contributed funds to buy the bond. The interest shown on your Form 1099-INT will not be reduced by the amount you received as nominee for the other co-owner. (See Co-owners, earlier in this section, for more information about the reporting requirements.)
• You received the bond in a taxable distribution from a retirement or profit-sharing plan. The interest shown on your Form 1099-INT will not be reduced by the interest portion of the amount taxable as a distribution from the plan and not taxable as interest. (This amount is generally shown on Form 1099-R, Distributions From Pensions, Annuities, Retirement or Profit-Sharing Plans, IRAs, Insurance Contracts, etc., for the year of distribution.)

For more information on including the correct amount of interest on your return, see U.S. savings bond interest previously reported or Nominee distributions under How To Report Interest Income, later.

Interest on U.S. savings bonds is exempt from state and local taxes. The Form 1099-INT you receive will indicate the amount that is for U.S. savings bonds interest in box 3. Do not include this income on your state or local income tax return.

taxmap/pubs/p550-002.htm#TXMP4e839c4e Education Savings Bond Program(p10)

Education Savings Bond Program

You may be able to exclude from income all or part of the interest you receive on the redemption of qualified U.S. savings bonds during the year if you pay qualified higher educational expenses during the same year. This exclusion is known as the Education Savings Bond Program.

You do not qualify for this exclusion if your filing status is married filing separately.

taxmap/pubs/p550-002.htm#TXMP2cf268e6 Form 8815.(p10)

Use Form 8815, Exclusion of Interest From Series EE and I U.S. Savings Bonds Issued After 1989, to figure your exclusion. Attach the form to your Form 1040 or Form 1040A.

taxmap/pubs/p550-002.htm#TXMP51aa9807 Qualified U.S. savings bonds.(p10)

A qualified U.S. savings bond is a series EE bond issued after 1989 or a series I bond. The bond must be issued either in your name (sole owner) or in your and your spouse's names (co-owners). You must be at least 24 years old before the bond's issue date. For example, a bond bought by a parent and issued in the name of his or her child under age 24 does not qualify for the exclusion by the parent or child.

The issue date of a bond may be earlier than the date the bond is purchased because the issue date assigned to a bond is the first day of the month in which it is purchased.

taxmap/pubs/p550-002.htm#TXMP001bb7b3 Beneficiary.(p10)

You can designate any individual (including a child) as a beneficiary of the bond.

taxmap/pubs/p550-002.htm#TXMP6ae30594 Verification by IRS.(p10)

If you claim the exclusion, the IRS will check it by using bond redemption information from the Department of Treasury.

taxmap/pubs/p550-002.htm#TXMP77184c16 Qualified expenses.(p10)

Qualified higher educational expenses are tuition and fees required for you, your spouse, or your dependent (for whom you claim an exemption) to attend an eligible educational institution.

Qualified expenses include any contribution you make to a qualified tuition program or to a Coverdell education savings account. For information about these programs, see Publication 970, Tax Benefits for Education.

Qualified expenses do not include expenses for room and board or for courses involving sports, games, or hobbies that are not part of a degree or certificate granting program.

taxmap/pubs/p550-002.htm#TXMP3de28f71 Eligible educational institutions.(p10)

These institutions include most public, private, and nonprofit universities, colleges, and vocational schools that are accredited and are eligible to participate in student aid programs run by the Department of Education. See chapter 10 of Publication 970 for information on foreign schools that are eligible.

taxmap/pubs/p550-002.htm#TXMP736f1d8e Reduction for certain benefits.(p10)

You must reduce your qualified higher educational expenses by all of the following tax-free benefits.

1. Tax-free part of scholarships and fellowships.
2. Expenses used to figure the tax-free portion of distributions from a Coverdell ESA.
3. Expenses used to figure the tax-free portion of distributions from a qualified tuition program.
4. Any tax-free payments (other than gifts or inheritances) received as educational assistance, such as:
   1. Veterans' educational assistance benefits,
   2. Qualified tuition reductions, or
   3. Employer-provided educational assistance.
5. Any expense used in figuring the Hope and lifetime learning credits.

For information about these benefits, see Publication 970.

taxmap/pubs/p550-002.htm#TXMP4ff4f7d2 Amount excludable.(p10)

If the total proceeds (interest and principal) from the qualified U.S. savings bonds you redeem during the year are not more than your adjusted qualified higher educational expenses for the year, you may be able to exclude all of the interest. If the proceeds are more than the expenses, you may be able to exclude only part of the interest.

To determine the excludable amount, multiply the interest part of the proceeds by a fraction. The numerator (top part) of the fraction is the qualified higher educational expenses you paid during the year. The denominator (bottom part) of the fraction is the total proceeds you received during the year.

taxmap/pubs/p550-002.htm#TXMP29bfcd42
Example.(p10)

In February 2007, Mark and Joan, a married couple, cashed a qualified series EE U.S. savings bond they bought in April 1996. They received proceeds of $7,512, representing principal of $5,000 and interest of $2,512. In 2007, they paid $4,000 of their daughter's college tuition. They are not claiming an education credit for that amount, and their daughter does not have any tax-free educational assistance. They can exclude $1,338 ($2,512 × ($4,000 ÷ $7,512)) of interest in 2007. They must pay tax on the remaining $1,174 ($2,512 − $1,338) interest.

taxmap/pubs/p550-002.htm#TXMP3b05faf9 Figuring the interest part of the proceeds (Form 8815, line 6).(p10)

To figure the amount of interest to report on Form 8815, line 6, use the Line 6 Worksheet in the Form 8815 instructions.

If you previously reported any interest from savings bonds cashed during 2007, use the Alternate Line 6 Worksheet below instead.

Alternate Line 6 Worksheet
1.	Enter the amount from Form 8815, line 5
2.	Enter the face value of all post-1989 paper series EE bonds cashed in 2007
3.	Multiply line 2 above by 50% (.50)
4.	Enter the face value of all electronic series EE bonds (including post-1989 series EE bonds converted from paper to electronic format) and all series I bonds cashed in 2007
5.	Add lines 3 and 4
6.	Subtract line 5 from line 1
7.	Enter the amount of interest reported as income in previous years
8.	Subtract line 7 from line 6. Enter the result here and on Form 8815, line 6

taxmap/pubs/p550-002.htm#TXMP3c32e4f0 Modified adjusted gross income limit.(p11)

The interest exclusion is limited if your modified adjusted gross income (modified AGI) is:

• $65,600 to $80,600 for taxpayers filing single or head of household, and
• $98,400 to $128,400 for married taxpayers filing jointly, or for a qualifying widow(er) with dependent child.

You do not qualify for the interest exclusion if your modified AGI is equal to or more than the upper limit for your filing status.

taxmap/pubs/p550-002.htm#TXMP6f988bd1 Modified AGI.(p11)

Modified AGI, for purposes of this exclusion, is adjusted gross income (Form 1040A, line 21, or Form 1040, line 37) figured before the interest exclusion, and modified by adding back any:

1. Foreign earned income exclusion,
2. Foreign housing exclusion and deduction,
3. Exclusion of income for bona fide residents of American Samoa,
4. Exclusion for income from Puerto Rico,
5. Exclusion for adoption benefits received under an employer's adoption assistance program,
6. Deduction for tuition and fees,
7. Deduction for student loan interest, and
8. Deduction for domestic production activities.

Use the worksheet in the instructions for line 9, Form 8815, to figure your modified AGI. If you claim any of the exclusion or deduction items listed above (except items 6, 7, and 8), add the amount of the exclusion or deduction (except any deduction for tuition and fees, student loan interest, or domestic production activities) to the amount on line 5 of the worksheet, and enter the total on Form 8815, line 9, as your modified AGI.

taxmap/pubs/p550-002.htm#TXMP3dad9f8b Royalties included in modified AGI.(p11)

Because the deduction for interest expenses due to royalties and other investments is limited to your net investment income (see Investment Interest in chapter 3), you cannot figure the deduction for interest expenses until you have figured this exclusion of savings bond interest. Therefore, if you had interest expenses that are due to royalties and deductible on Schedule E (Form 1040), you must make a special computation of your deductible interest to figure the net royalty income included in your modified AGI. You must figure deductible interest without regard to this exclusion of bond interest.

You can use a "dummy" Form 4952, Investment Interest Expense Deduction, to make the special computation. On this form, include in your net investment income your total interest income for the year from series EE and I U.S. savings bonds. Use the deductible interest amount from this form only to figure the net royalty income included in your modified AGI. Do not attach this form to your