7650 / How is original issue discount (OID) on corporate and treasury obligations issued after July 1, 1982 included in income?
If a bond is issued for property (stock or securities, or to the extent provided for in regulations, for other property in tax years ending after July 18, 1984) and either the bond or the property is traded on an established market, the issue price of the bond is considered to be the fair market value of the property.2
The amount of original issue discount is included in income as it accrues over the life of the bond. For bonds issued after April 4, 1994, OID must generally be accrued using the constant yield method. The holder of a bond may use accrual periods of different lengths provided that no accrual period is longer than one year. Payments may occur either on the first day or final day of an accrual period.3
The amount of original issue discount accruing each period is ratably allocated to each day in the period. These “daily portions” must be included in gross income by each owner for each day the owner holds the bond during the tax year.4 (More often than not, the individual’s tax year will overlap two periods. If so, the owner simply totals the appropriate daily portions for the parts of each period that falls in his or her tax year.) Taxpayers who use the cash receipts and disbursement method of accounting and maintain a brokerage account that includes original issue discount debt instruments and stripped bonds must include in gross income for the taxable year the amount of accrued discount allocable to the portion of the taxable year in which they held the debt instruments. The taxpayers cannot defer the inclusion of original issue discount until it is actually received.5