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Re: taxation treatment of interest paid on purchase of corporate bond

Initiate

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Replies 9

My question relates to the treatment of accrued interest and profit on the sale of bonds.  For example, if a bond is sold for $50,555 (comprising $50,000 plus accrued interest of $555) and it receives coupons of $5000 during the investment period - = $55,555 - minus the gross purchase price $49,999 (comprising $49,000 + accrued interest of $999) leaves total income of $5556.00

Question One - as the coupons have been taxed during the investment period ie included in the annual income tax return as income received - are they excluded from a second taxing as a component in the "profit" amount which is also included in the income tax return in the year it was sold?

 

Question Two - is the accrued interest ignored as a "separate taxable/identifiable amount" as it forms part of the purchase and sale price and is treated identically because of that?

 

Thanks

1 ACCEPTED SOLUTION

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Most helpful response

Devotee Registered Tax Practitioner

Replies 8

are they excluded from a second taxing as a component in the "profit" amount which is also included in the income tax return in the year it was sold?

The movement in value of the bond is not interest, and not a capital gain.

 

is the accrued interest ignored as a "separate taxable/identifiable amount" as it forms part of the purchase and sale price and is treated identically because of that?

 

No  -  see below for correct treatment:

 

Example 13: Company bonds

Company X borrows $1,000,000 from investors by issuing 10,000 bonds for $100 each. These bonds pay interest at 8% per annum until the bonds mature in five years time and Company X pays back the money it borrowed.

Terry buys 100 Company X bonds for $98.75 each on the market and holds the bonds until they mature. On maturity, Company X pays Terry $100 each to redeem the bonds.

Terry made a profit in the year in which the bonds were redeemed by Company X. The profit, $125, is equal to the proceeds paid to Terry on redemption less the money Terry paid to purchase the bonds, calculated as follows:

  • 100 bonds × $100.00 each = $10,000 redemption proceeds paid to Terry
  • 100 bonds × $98.75 each = $9,875 cost to Terry
  • $10,000 − $9,875 = $125 profit

Terry includes the $125 on his tax return (supplementary section) at item 24 Other income.

 

https://www.ato.gov.au/Forms/You-and-your-shares-2019/?page=25#Example_13

9 REPLIES 9

Most helpful response

Devotee Registered Tax Practitioner

Replies 8

are they excluded from a second taxing as a component in the "profit" amount which is also included in the income tax return in the year it was sold?

The movement in value of the bond is not interest, and not a capital gain.

 

is the accrued interest ignored as a "separate taxable/identifiable amount" as it forms part of the purchase and sale price and is treated identically because of that?

 

No  -  see below for correct treatment:

 

Example 13: Company bonds

Company X borrows $1,000,000 from investors by issuing 10,000 bonds for $100 each. These bonds pay interest at 8% per annum until the bonds mature in five years time and Company X pays back the money it borrowed.

Terry buys 100 Company X bonds for $98.75 each on the market and holds the bonds until they mature. On maturity, Company X pays Terry $100 each to redeem the bonds.

Terry made a profit in the year in which the bonds were redeemed by Company X. The profit, $125, is equal to the proceeds paid to Terry on redemption less the money Terry paid to purchase the bonds, calculated as follows:

  • 100 bonds × $100.00 each = $10,000 redemption proceeds paid to Terry
  • 100 bonds × $98.75 each = $9,875 cost to Terry
  • $10,000 − $9,875 = $125 profit

Terry includes the $125 on his tax return (supplementary section) at item 24 Other income.

 

https://www.ato.gov.au/Forms/You-and-your-shares-2019/?page=25#Example_13

Initiate

Replies 7

Thanks  Bruce,

 

I think I understand what you mean, but to clarify -

 

1.  In my example, Sale price includes accrued interest (but it's not necessary to differentiate between principal and interest ) $50,555

2.  Purchase price includes accrued interest (again, it's not necessary to differentiate between principal and interest) $49,999

3.  Profit is - $50,555 minus $49,999 = $556

4.  The coupons of $5,000 are not relevant/included as tax has been paid on them before.

 

am I on the right track?

 

Devotee Registered Tax Practitioner

Replies 6

am I on the right track?

 

Yes, but interest is not the only influence on bond prices.

 

Bond prices are also influenced bt market sentiment and market interest rates.

 

All you need to do is follow the ATO instructions.

 

Initiate

Replies 0

Thank you once again Bruce,

 

I shall follow your advice,

 

Cheers

Newbie

Replies 4

Hi 

following on from the earlier question and example - if the purchase price is 50,555 and 50,000 is the price of the bond and $555 is interest accrued since the last interest paid date until the date of sale/ purchase,  which the buyer must pay the seller, how is the $555 reported ?

 

say the new owner receives $1000 interest in the tax year, do they report 1000 minus the 555 they paid the previous owner as interest income or do they report 1000 interest income and 555 as an expense of generating the 1000. 

 

 

Devotee Registered Tax Practitioner

Replies 3

if the purchase price is 50,555 and 50,000 is the price of the bond and $555 is interest accrued

No  -  $ 555 is just part of the buy price.

 

how is the $555 reported ?

$ 555 is not reported  -  $ 50,555 is just the cost of the bond.

 

say the new owner receives $1000 interest in the tax year, do they report 1000 minus the 555

No  -  report interest =  $ 1000

 

or do they report 1000 interest income and 555 as an expense of generating the 1000.

No  -  you need to read this:

https://www.ato.gov.au/Forms/You-and-your-shares-2019/?page=25#Example_13

 

 

 

 

Newbie

Replies 0

Thank you !!

not what I expected- so glad I asked the question

Newbie

Replies 1

Hi, Bruce4Tax, 

 

Based from the scenario above, 

Sales proceeds =  $50,555 ($50,000 + $555 of accrued interest)

Cost of disposal =  $49,999 ($49,000 + $999 of accrued interest)

Profit included in the tax return = $50,555 - $49,999 = $556 

 

Am i right?

Devotee Registered Tax Practitioner

Replies 0

Based from the scenario above,

Sales proceeds = $50,555 ($50,000 + $555 of accrued interest)

Cost of disposal = $49,999 ($49,000 + $999 of accrued interest)

Profit included in the tax return = $50,555 - $49,999 = $556

Am i right?

 

If cost of disposal means purchase price of the bond, then this is correct  -  declare at Item 24.