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Title 26 — Internal Revenue CodeRelease 119-73

§1281 Current Inclusion in Income of Discount on Certain Short-term Obligations

Title 26 › Subtitle Subtitle A— Income Taxes › Chapter 1— NORMAL TAXES AND SURTAXES › Subchapter P— Capital Gains and Losses › Part V— SPECIAL RULES FOR BONDS AND OTHER DEBT INSTRUMENTS › Subpart C— Discount on Short-Term Obligations › § 1281

Last updated Apr 6, 2026|Official source

Summary

Certain holders of short-term debt cannot wait until the debt is paid off to report the built-in discount as income. Instead, they must include in income each day's share of the acquisition discount for every day they hold the obligation during the year, and any stated interest on it counts as income as it accrues. The rule applies to accrual-method taxpayers, dealers holding the debt for sale to customers, banks, regulated investment companies, common trust funds, holders using the debt in an identified hedging transaction, and people who strip bonds or coupons. It also reaches partnerships, S corporations, trusts, and other pass-through entities that are set up to avoid the rule, or in which covered holders own 20 percent or more of the value on at least 90 days of the year.

Full Legal Text

Title 26, §1281

Internal Revenue Code — Source: USLM XML via OLRC

(a)In the case of any short-term obligation to which this section applies, for purposes of this title—
(1)there shall be included in the gross income of the holder an amount equal to the sum of the daily portions of the acquisition discount for each day during the taxable year on which such holder held such obligation, and
(2)any interest payable on the obligation (other than interest taken into account in determining the amount of the acquisition discount) shall be included in gross income as it accrues.
(b)(1)This section shall apply to any short-term obligation which—
(A)is held by a taxpayer using an accrual method of accounting,
(B)is held primarily for sale to customers in the ordinary course of the taxpayer’s trade or business,
(C)is held by a bank (as defined in section 581),
(D)is held by a regulated investment company or a common trust fund,
(E)is identified by the taxpayer under section 1256(e)(2) as being part of a hedging transaction, or
(F)is a stripped bond or stripped coupon held by the person who stripped the bond or coupon (or by any other person whose basis is determined by reference to the basis in the hands of such person).
(2)(A)This section shall apply also to—
(i)any short-term obligation which is held by a pass-thru entity which is formed or availed of for purposes of avoiding the provisions of this section, and
(ii)any short-term obligation which is acquired by a pass-thru entity (not described in clause (i)) during the required accrual period.
(B)For purposes of subparagraph (A), the term “required accrual period” means the period—
(i)which begins with the first taxable year for which the ownership test of subparagraph (C) is met with respect to the pass-thru entity (or a predecessor), and
(ii)which ends with the first taxable year after the taxable year referred to in clause (i) for which the ownership test of subparagraph (C) is not met and with respect to which the Secretary consents to the termination of the required accrual period.
(C)The ownership test of this subparagraph is met for any taxable year if, on at least 90 days during the taxable year, 20 percent or more of the value of the interests in the pass-thru entity are held by persons described in paragraph (1) or by other pass-thru entities to which subparagraph (A) applies.
(D)The term “pass-thru entity” means any partnership, S corporation, trust, or other pass-thru entity.
(c)For special rules limiting the application of this section to original issue discount in the case of nongovernmental obligations, see section 1283(c).

Legislative History

Notes & Related Subsidiaries

Editorial Notes

Amendments

1986—Subsec. (a). Pub. L. 99–514, § 1803(a)(8), amended subsec. (a) generally, designating existing provisions as par. (1) and adding par. (2). Subsec. (b)(1)(F). Pub. L. 99–514, § 1803(a)(7), added subpar. (F).

Statutory Notes and Related Subsidiaries

Effective Date

of 1986 AmendmentAmendment by section 1803(a)(7) of Pub. L. 99–514 effective, except as otherwise provided, as if included in the provisions of the Tax Reform Act of 1984, Pub. L. 98–369, div. A, to which such amendment relates, see section 1881 of Pub. L. 99–514, set out as a note under section 48 of this title. section 1803(a)(8)(A) of Pub. L. 99–514, as amended by Pub. L. 100–647, title I, § 1018(c)(1), Nov. 10, 1988, 102 Stat. 3578, provided that the amendment made by section 1803(a)(8)(A) of Pub. L. 99–514 is effective with respect to obligations acquired after Dec. 31, 1985.

Effective Date

Section applicable to taxable years ending after July 18, 1984, and applicable to obligations acquired after that date, with certain elections available, see section 44 of Pub. L. 98–369, set out as a note under section 1271 of this title. Plan

Amendments

Not Required Until January 1, 1989For provisions directing that if any

Amendments

made by subtitle A or subtitle C of title XI [§§ 1101–1147 and 1171–1177] or title XVIII [§§ 1800–1899A] of Pub. L. 99–514 require an amendment to any plan, such plan amendment shall not be required to be made before the first plan year beginning on or after Jan. 1, 1989, see section 1140 of Pub. L. 99–514, as amended, set out as a note under section 401 of this title.

Reference

Citations & Metadata

Citation

26 U.S.C. § 1281

Title 26 — Internal Revenue Code

Last Updated

Apr 6, 2026

Release point: 119-73