1099-OID for Defaulted Bonds

OID gets added to basis. If the bond becomes worthless, you have a sale (capital loss) at zero and a cost basis that includes the OID you declared as taxable income.

A defaulted bond is not worthless, and may never become worthless (e.g. the company pays 50% of face in the bankruptcy settlement).

Seth

I assumed the use of the word default conveyed that the issuer at maturity did not pay the face value. I.e., the issuer defaulted. I said "if the bond becomes worthless", the sale is at zero and you have a cpaital loss. If at default, the bond is not worthless, then you sell it for what you can get and you have a capital loss. Imputed interest on a zero coupon bond continues to accrue to maturity unless some event stops imputed interest. E.g., the issuer goes belly up before the bond reaches maturity and the bond holders are stuck with wallpaper.

Can OID be charged on a preferred stock?

Under certain circumstances... Yes. For an example see:

It isn't maturity yet. The issuer declared bankruptcy.

What if I _don't_ immediately sell it? Maybe I think the price will increase from the "fire sale" price being paid now while people who think like you are dumping the bond.

That's the question: is bankruptcy on the part of the issuer an event that stops imputed interest?

What if the bonds _aren't_ wallpaper?

Seth

You are reading something into the original post that was not there. What bankruptcy?

What bankruptcy? However, I'll answer the question. Filing: Yes. See below for an explanation.

The IRS position since a 1995 TAM was published about 15 years ago, is that you continue to report OID on troubled debt. Some professionals believe the IRS position on OID is nuts. This would include me. They believe the rationale for accruing OID should be the same as the rationale for an accrual based taxpayer who owns bonds with a coupon. These holders of debt can stop accruing when a reasonable assessment concludes that the lender will never be able to pay the interest (some

I am not aware of any cases on this issue (OID is different). TAMs do not have the same force as a Treasury Reg. or Revenue Ruling. So... you must proceed with caution if you decide to no longer report OID if you conclude the interest will not be paid and the lender has not filed for bankruptcy.

See above.

Or other act of default. The issuer might have failed to pay on a _different_ bond, or failed to pay a coupon on this one. The bond hasn't matured, it isn't worthless, and the holder isn't selling right now.

That makes sense. So, hope that the default occurs early enough in the year that by the time you have to file, it has been resolved (either by correction and the company is out of default, or by filing bankruptcy).

If the company files bankruptcy after the taxpayer files (and pays tax on OID to avoid a fight with the IRS), can the taxpayer reclaim the tax on the OID by filing an amended return? (Can he do so for all open years he owned the bond?)

Seth

On 10/1/2012 9:18 AM, Seth wrote: [snip]

Sure. But only for the normal open period for amending. I see nothing in the law that would allow an exception beyond the 3 year period or 2 years from payment period.

(Can he do so for all

If I am understanding the OID rules correctly, the OID payments increase your cost basis in the security. If the security goes bankrupt and you want to claim a capital loss, it will be against a higher cost basis.

Are you suggesting there is a way to directly reverse the OID payment without claiming additional capital loss on the original investment?

If the company is bankrupt, I don't have to claim the OID as income (and increase the basis). Clearly, that's better for me, especially if I haven't _sold_ the instrument so there's no capital loss to be considered.

My question was how far back I can retroactively not claim OID income.

Seth