This information is regarding bonds whichare held outside of RRSPs or other registeredaccounts. It does not apply to Canada Savings Bonds or similar provincialsavings bonds, which do not result in capital gains or losses.
Interest Received is Taxable Annually
You must pay tax every year on the interest income received, whether you buy the bond at face value, at a discount, or at a premium.
Adjusted Cost Base of Interest-Paying Bond
The amount that you pay for the bond will include the price of the bond, plus any interest accrued on the bond since the last interest payment date. The adjusted cost base (ACB) of your bond will be the total amount paid less accrued interest.
Accrued Interest Purchased Reduces Taxable Interest Income
To determine the amount of interest income to include in your taxable income, deduct the accrued interest purchased (when you bought the bond) from the first interest income received.
Interest-Paying Bond Purchased at Face Value
If you purchase the bond at face value (maturity value) and hold it to maturity, there will be no capital gain or loss on the bond.
Interest-Paying Bond Purchasedat Discount or Premium
When the bond is purchased at a discount or premium, and is held to maturity, you will have either a capital gain or a capital loss. If you purchased the bond at a premium, the premium amount will be the capital loss when the bond matures. For instance, if you paid $11,000 for a $10,000 face value bond, you will have a $1,000 capital loss when the bond matures. If you purchased the bond at a discount, the discount amount will be a capital gain when the bond matures.
When bonds are sold prior to maturity, there will be a capital gain or loss. Part of the proceeds will be for interest accrued since the last interest payment date. This will be included in your income as interest income. Your adjusted cost base is deducted from the proceeds (excluding interest) to determine your capital gain or loss.
Capital losses cannot be deducted from other income. They can only be used to reduce or eliminate capital gains. See also the CapitalGains and Losses article.
Example of Capital Gainor Loss on Interest-Paying Bonds
Example: Assume you have $11,000 that you want to invest for one year in interest-bearing bonds. You have found 2 different bonds that have the same yield. For one of them you would pay a $500 premium, the other would be purchased at a $500 discount. They are purchased 1year prior to maturity. No accrued interest was purchased.
| Premium | Discount |
| Maturity value | $10,500 | $11,500 |
| Interest rate | 12.81% | 3% |
| Interest income (maturity value x interest rate) | $1,345 | $345 |
| Price paid | $11,000 | $11,000 |
| Capital gain/(loss) at maturity | ($500) | $500 |
| Total income for the year | $845 | $845 |
| Yield | 7.68% | 7.68% |
| Taxable income (interest income + 50% of capital gain or loss) | $1,095 | $595 |
As you can see, the above bonds will result in the same total income, but the taxable income will be higher with the bond purchased at a premium. This assumes that the taxpayer has capital gains against which to offset the capital loss. If not, the taxable income would be $1,345 in the case of the bond purchased at a premium.
TaxTips.ca Resources
Tax treatment of investments in non-interest paying bonds (strip bonds)
Historical Investment Returns on Stocks, Bonds, T-Bills
Canada Revenue Agency Resources
Bonds, debentures, promissory notes, and other similar properties
Line 12100 - Interest and other investment income: Canada savings bonds (CSBs)
Tax Tips
Keep bondsinside a registered account (RRSP, RRIF, TFSA, etc.). They are not tax efficient, and the bookkeeping is complicated! No bookkeeping is required when they are inside a registered account.
If you buy bonds in anon-registered account, when choosing between similar bonds with the same yield to maturity, the best choice would be the one with the highest discount, because the taxable income will be lower.
Revised: May 24, 2024
FAQs
Interest income from Treasury bills, notes, and bonds is subject to federal income tax, but is exempt from all state and local income taxes.
How are bond investments taxed? ›
Taxes on individual bonds
The tax implications of individual bonds are fairly straightforward: If an investor owns bonds that generate taxable income (which covers almost all bonds except for municipal bonds, in general), he or she is taxed on that income in the year it's received.
Is interest from investment bonds taxable? ›
If you have access to withdraw any of the funds at any time, then the interest will be taxable in the year in which it arises. If you have an account where you cannot access the funds until the end of a set term, then the interest would be taxable at the end of the fixed term, when you can access the funds.
How do you avoid tax on treasury bonds? ›
Use the Education Exclusion
You can skip paying taxes on interest earned with Series EE and Series I savings bonds if you're using the money to pay for qualified higher education costs. That includes expenses you pay for yourself, your spouse or a qualified dependent.
What bonds are tax-exempt in California? ›
Municipal Bonds
Most bonds issued by government agencies are tax-exempt. This means bondholders do not have to pay federal income taxes and, in most cases, state income taxes on the interest they earn. In addition to the tax-exempt status, investors benefit from the taxing authority of the government agencies.
Does California tax capital gains on treasury bonds? ›
Taxation of federal government bonds
Income from bonds issued by the federal government and its agencies, including Treasury securities, is generally exempt from state and local taxes.
Do I need to report I bonds on my tax return? ›
I cashed some Series E, Series EE, and Series I savings bonds. How do I report the interest? In general, you must report the interest in income in the taxable year in which you redeemed the bonds to the extent you did not include the interest in income in a prior taxable year.
What is the 50% rule for tax-exempt interest in California? ›
Certain mutual funds pay “exempt-interest dividends.” If the mutual fund has at least 50 percent of its assets invested in tax-exempt U.S. obligations and/or in California or its municipal obligations, that amount of dividend is exempt from California tax.
Which treasury bonds are tax free? ›
Interest from Treasuries is generally taxable at the federal level, but not at the state level. Interest from munis is generally exempt from federal taxes, and if you live in the state where the bond was issued, the interest may also be exempt from state taxes.
What bond interest is not taxable? ›
Interest on a bond that is used to finance government operations generally is not taxable if the bond is issued by a state, the District of Columbia, a U.S. possession, or any of their political subdivisions.
This is a rule in tax law which allows investors to withdraw up to 5% of their investment into a bond, each policy year, without incurring an immediate tax charge.
Do you pay taxes on bonds when they mature? ›
Owners can wait to pay the taxes when they cash in the bond, when the bond matures, or when they relinquish the bond to another owner. Alternatively, they may pay the taxes yearly as interest accrues. 1 Most owners choose to defer the taxes until they redeem the bond.
What are the disadvantages of investing in Treasury bonds? ›
But while they are lauded for their security and reliability, potential drawbacks such as interest rate risk, low returns and inflation risk must be carefully considered. If you're interested in investing in Treasury bonds or have other questions about your portfolio, consider speaking with a financial advisor.
How to save taxes on bonds? ›
You can exclude the interest from your series EE and series I U.S. savings bonds on Form 8815 of the 1040. Form 8815 helps calculate the amount of interest that you can exclude from your tax return. If all the interest was not used for a qualified higher education expense you will stay pay taxes on that amount.
How much tax do you pay on savings bonds interest? ›
Savings bond interest is exempt from state and local income tax. Savings bond interest is subject to federal income tax; however, taxation can be deferred until redemption, final maturity, or other taxable disposition, whichever occurs first.
Do I have to report i bond interest on taxes? ›
How do you report interest on your tax return? The interest on your I bond falls on the same line as other interest income whether you choose to report it every year or all at once at the end of your ownership. Interest the bond earns is reported on a 1099-INT after the bond is cashed or reissued.
Will I get a 1099 from TreasuryDirect? ›
We put a 1099 into your TreasuryDirect account if: You cash a savings bond in TreasuryDirect. (We don't provide a 1099 if you only buy or hold a savings bond.) You hold a marketable security in TreasuryDirect and the security earns interest.
What interest income is taxable in California? ›
Outside of tax-exempt interest from California state and municipal tax-exempt bonds, all interest, dividends and realized capital gains are taxed as ordinary income.
Are inherited I bonds taxable? ›
[the other choice is to pay the income tax on the interest each year, even though the interest is not received until the bond is redeemed]. As a result, when inheritors redeem inherited bonds on which the tax has been deferred, they will owe tax on all the interest that has accumulated.
