What is a bond premium?
If you pay a premium to buy a bond, the premium is part of your cost basis in the bond. You can choose to amortize the bond premium.
This generally means that each year, over the life of the bond, you use a part of the bond premium to reduce the amount of interest included in your income. If you make this choice, you must reduce your basis in the bond by the amortization for the year.
You can also choose to not amortize the bond premium and just have the cost basis in the bond remain the same. The only difference is you get the tax benefit of the bond premium when the bond is sold or matures rather than getting a little bit of tax benefit each year from the amortized bond premium.
For example, you buy a bond that has a face value of $1,000 for $1,100 that has 10 years left before the bond matures. In this example, the bond premium paid is $100. If you choose to NOT amortize the bond premium, your cost basis in the bond will remain $1,100. If you choose to amortize the bond premium over the 10 years of life the bond has left, then you would have an amortizable bond premium of $10 each year. You would enter that $10 as amortizable bond premium and it will reduce your taxable interest income by $10. Each year your cost basis in the bond would reduce by the $10. So after the first year, your cost basis in the bond would be $1,090 instead of $1,100, and after ten years your cost basis in the bond would be $1,000.
This generally means that each year, over the life of the bond, you use a part of the bond premium to reduce the amount of interest included in your income. If you make this choice, you must reduce your basis in the bond by the amortization for the year.
You can also choose to not amortize the bond premium and just have the cost basis in the bond remain the same. The only difference is you get the tax benefit of the bond premium when the bond is sold or matures rather than getting a little bit of tax benefit each year from the amortized bond premium.
For example, you buy a bond that has a face value of $1,000 for $1,100 that has 10 years left before the bond matures. In this example, the bond premium paid is $100. If you choose to NOT amortize the bond premium, your cost basis in the bond will remain $1,100. If you choose to amortize the bond premium over the 10 years of life the bond has left, then you would have an amortizable bond premium of $10 each year. You would enter that $10 as amortizable bond premium and it will reduce your taxable interest income by $10. Each year your cost basis in the bond would reduce by the $10. So after the first year, your cost basis in the bond would be $1,090 instead of $1,100, and after ten years your cost basis in the bond would be $1,000.
