Ask the Experts: Usually, cashed savings bonds are taxable
Cashing out U.S. savings bonds: Can I avoid the income tax? That’s this week’s question from a widow who wants to give the cash to her adult children.
Answering her question is Gregory Burke, a Sacramento, Calif., certified public accountant and our “Ask the Experts” specialist on federal taxes.
QUESTION: I own U.S. savings bonds that will no longer earn interest in 2015. My question: If I cash them in, is there any way to avoid paying income tax on that interest? I would like to give the money to my three children but cannot afford to pay taxes on a large amount. I am an 80-year-old widow on a fixed income. Thank you.
ANSWER: Under most circumstances, you cannot avoid paying tax on the interest you receive when you cash in U.S. savings bonds.
Assuming you did not elect to report the accrued interest on the bonds each year, you must report the interest either on the date the bond matures or the date you cash it, whichever is earliest.
There is a special rule for Series E bonds that allows you to defer paying tax on the interest if you purchase another U.S. government bond or make a tax-free exchange into another nontransferable U.S. bond.
Series E bonds were last issued in 1979 with 30-year maturities, so I assume you do not hold them if your bonds mature in 2015. You probably own Series EE, HH or I bonds.
There are no current tax-free exchanges of EE, HH or I bonds.
There are, however, some instances where you don’t pay income tax when cashing out savings bonds, such as when the proceeds are used for college tuition.
Under certain circumstances, Series EE bonds can be cashed and the interest excluded from income.
For example, if adults over age 24 purchase EE bonds that are registered in their name (or their name and the name of a child), and later cash in the bonds and use the proceeds to pay for qualified higher-education expenses, the interest on the bonds is not taxable. The higher education expenses could be for themselves, their spouse or a dependent.
Qualified higher-education expenses are limited to tuition and mandatory fees at eligible institutions. There is an income limit on this exclusion. In 2012, the exclusion for single taxpayers begins phasing out at incomes of $72,850 and above. For married taxpayers filing joint returns, the phase-out starts at incomes of $109,250.
It does not appear to be possible to shift the tax requirement by making a gift of your U.S. savings bonds. The interest becomes taxable to the original owner when the name is changed to the new owner.
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