§1276 Disposition gain representing accrued market discount treated as ordinary income

Summary

Treat gain when you sell a bond you bought at a discount as ordinary income, but only up to the amount of discount that built up while you owned it. That rule applies even if other tax rules might say something different. If you transfer the bond in a way that is not a sale, the transfer is treated as if you got the bond’s fair market value. Any partial principal payment you receive is ordinary income up to the accrued discount, and that amount lowers the remaining accrued discount. For most tax rules, amounts treated this way count as interest, except for sections 103, 871(a), 881, 1441, 1442, and 6049 (and any others the IRS names). Figure accrued market discount by counting days: the days you held the bond divided by the days from when you bought it to its maturity, applied to the total market discount. You can instead pick an IRS-supported method that treats the bond as if issued when you bought it and uses original-issue discount rules; that choice is final for that bond. The IRS will issue rules for bonds with multiple principal payments and for tax-free transfers so the new owner takes over the old owner’s accrued discount or the discount follows the exchanged property. The IRS will also require basis adjustments when gain is recognized.