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Series 7 practice questionhardTax Implications — Municipal Bond Taxation

A municipal bond with a par value of $1,000 and 8 years to maturity is purchased at $985 in the secondary market. Under the de minimis rule, how is the $15 discount treated at maturity?

  1. AAs ordinary income
  2. BAs a capital gain✓ Correct answer
  3. CAs tax-exempt income
  4. DThe discount is not recognized
Explanation

Why B — As a capital gain

The de minimis threshold is 0.25% x $1,000 par x 8 years = $20. Since the $15 discount is less than the $20 threshold, the discount falls within the de minimis exception and is treated as a capital gain at maturity rather than ordinary income. This is more favorable because capital gains are taxed at lower rates than ordinary income.

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