What Is "OID Interest"?

By Jeff Franco J.D./M.A./M.B.A.

Original issue discount, or OID, refers to the unstated interest income that holders of certain debt instruments may have to pay tax on. If you invest in one of these debt instruments, like a corporate bond, for example, knowing some of the basic rules governing this complex area of tax law can help you figure out how to report the amounts listed on Form 1099-OID on your tax return. But in some cases, OID isn't even taxable.

OID Basics

The general rule governing OID interest requires you to report it as income on returns as it accrues each year, regardless of the amount of stated interest reported each year. OID interest is calculated as the difference between an instrument's redemption price at maturity – which is the amount paid back to you minus the payments of stated interest – and the price you pay for the investment.

De Minimis Rule

Sometimes you don't have to report any OID interest when it's a de minimis, or small, amount. This is only the case if the actual OID calculated is less than the result when the redemption price is multiplied by .25 percent, then multiplied again by the number of full years between the date of issue and maturity.

Examples

A zero-coupon corporate bond that doesn't pay interest, for example, is issued for $900 and redeemable in 10 years for $1,000. In this simple example, the $100 difference is the total amount of OID interest on the bond – which accrues at the rate of $10 per year.

To illustrate how the de minimis rule works, suppose the zero-coupon bond's issue price is $980 instead of $900 and it is redeemable in 10 years for $1,000. In this case, OID interest equals $20. Since the amount is less than $25 ($1,000 x .25% x 10), your $20 of OID – regardless of whether it's reported on Form 1099-OID or not – doesn't need to be reported on your return.

Tax Return Reporting

If you do receive a 1099-OID, which may come from brokers who manage your investments, box 1 will report your OID interest for the year. The OID is ultimately reported on the “Taxable interest” line of your 1040 form. Note, however, that it's still necessary to evaluate whether the box 1 amount falls under the de minimis rule or not. If the total amount of OID and other interest earnings is $1,500 or more, Schedule B must be completed and attached to your return. The Schedule B form will require the name of each institution that paid you interest or that prepared Form 1099-OID, as well as the amount of interest – whether actual or OID – earned for the year.

About the Author

Jeff Franco's professional writing career began in 2010. With expertise in federal taxation, law and accounting, he has published articles in various online publications. Franco holds a Master of Business Administration in accounting and a Master of Science in taxation from Fordham University. He also holds a Juris Doctor from Brooklyn Law School.

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