When you buy a bond for less than face value (a discount), part of your return is the climb toward par at maturity. For many taxable bonds in a taxable brokerage account at Fidelity, Schwab, Vanguard, or similar, tax rules may require you to accrete that discount: each year you recognize extra taxable interest income and increase your tax basis. That is the mirror image of bond premium amortization.
This is a plain-English overview—not IRS Publication 550 or a CPA memo. Price sensitivity still belongs to Bond duration basics. Wrapper basics: Taxable brokerage account basics.
Premium, par, discount (tax theme map)
| Situation | Purchase vs par | Typical tax theme (taxable bond) |
|---|---|---|
| Premium | Price > face | Amortization may reduce taxable interest and basis |
| Par | Price ≈ face | Interest ≈ coupon; basis ≈ face until sale/maturity |
| Discount | Price < face | Accretion / OID-style rules may increase taxable income and basis over time |
Original issue discount (OID) generally applies when the bond was issued below par. Market discount can apply when you buy a seasoned bond below its revised issue price / adjusted basis rules. Both can create income before you receive cash equal to that income. Munis and Treasuries have special flavors—do not assume corporate-bond habits apply unchanged.
What accretion does
In simplified terms, for a taxable discount bond you accrete:
- Taxable interest for the year can include coupon cash plus an accreted discount amount (you may owe tax on income you did not receive as a separate “discount check”).
- Your adjusted basis rises by the accreted amount.
- At maturity, basis trends toward face, so the built-in discount is less likely to appear as one large capital gain that was really unpaid interest.
Brokers often report OID and related amounts on Form 1099-OID / 1099-INT supplements. Read the year-end package; do not re-create schedules from coupon stubs alone.
Why cash and tax can diverge
You might receive a $400 coupon while the tax worksheet adds $75 of accretion—taxable interest looks like $475 even though only $400 hit the checking account. Inside an IRA or 401(k), annual OID reporting usually does not matter the same way; you care about cash flows and risk, not 1099 accretion.
Comparing bonds on yield alone without tax timing: see Yield to maturity basics. Holding periods for any capital gain or loss on a sale still follow trade dates: Capital gains holding periods.
Worked example
Alex buys a taxable corporate bond with $10,000 face for $9,400 ($600 discount) in a Fidelity taxable account. Annual cash coupon: $350. For a given year, assume reportable accretion is $90 (actual constant-yield / OID figures from the broker or IRS tables will differ).
- Cash coupon: $350
- Illustrative taxable interest: $350 + $90 = $440
- Basis after that year’s accretion: $9,400 + $90 = $9,490
If Alex holds to maturity and accretes fully, basis approaches $10,000 and the discount has been taxed over time as interest-like income rather than only as a $600 capital gain at redemption. Market yields can still move the market price day to day—duration explains those swings, not the accretion worksheet.
Practical cues
- Prefer bond funds/ETFs if you do not want lot-level OID schedules (Investing basics for beginners).
- On individual bonds, download broker tax documents every January; match 1099-OID lines to lots.
- Market-discount elections (include annually vs at sale) are technical—material amounts deserve a CPA/EA.
- Tax-exempt munis can still have taxable market-discount quirks; read muni-specific instructions, not only corporate OID examples.
Checklist
- Note purchase price vs face on every individual taxable bond lot.
- Watch for 1099-OID / supplemental accretion in the broker tax package.
- Keep adjusted basis after each year’s accretion for sale or maturity math.
- Separate OID, market discount, and premium amortization—do not mix worksheets.
- Use IRS Publication 550 when amounts are material; ask a tax professional for elections.
- Judge risk with duration and credit quality separately from the tax schedule.
Educational only. Not tax, legal, or investment advice. OID, market-discount, and broker reporting rules change; confirm with current IRS publications, Form 1099 instructions, and a qualified tax professional.