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Gains on fixed interest investments

February 21, 2024

Sometimes you can buy an investment at either a premium or discount. 

For example, you decide to buy $20,000 worth of XYZ bonds because you think they’re paying a good interest rate and you are comfortable the company will be around to pay back. This means XYZ Ltd will pay you at some stated date $20,000 and in the meantime they will pay you interest. 

What happens if you buy the bond from somebody, perhaps a sharebroker, for $19,750? You have bought at a discount of $250.

Inland Revenue says when you get this money back you have to also account for the $250. You have made a profit of this amount and you have to treat it as taxable income. They would also agree if you had paid $20,250, you could claim back, as an expense, the extra $250 you paid.

What they do in practice is to add up all the money you have ever received from the investment and deduct all the money it has cost you – the difference is taxable income. This is because some of these arrangements are more complicated than described above. Inland Revenue calls this process making a “base price adjustment”.

You should also note that bigger investors, particularly those with fixed interest-type investments exceeding $1 million, are expected to spread the premium or discount over the term of the investment. This means that if, for example, you bought your investment on 1 February 2024 and it was going to mature on 1August 2026, you would be investing for 30 months. 

The correct way to apportion the premium or discount is to take the total number of days and apportion over each financial year. For the year ending 31 March 2024 this would be 60 days in this example.

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