Can a taxpayer increase his New York basis in out-of-state municipal bonds by the premium paid, when New York taxes the interest but allowed no deduction for the amortized premium?

Plain-English summary

A taxpayer bought out-of-state municipal bonds at a premium. Those bonds paid interest that is tax-exempt for federal purposes but taxable to New York (New York taxes interest on other states' municipal bonds). Federal law required him to amortize the premium and reduce his basis each year, but did not allow a deduction for that amortized premium. He took the standard deduction for New York. He asked whether, for New York, his basis could include the premium he paid.

The Office of Counsel concluded no: New York determines a bondholder's basis under federal law and regulations, and there is no Tax Law provision allowing a taxpayer to increase basis above the federal adjusted basis. So even though he got no New York benefit for the amortized premium, his New York basis equals his (reduced) federal basis.

What this means for you

Investors holding other states' municipal bonds

If you buy out-of-state munis at a premium, expect a squeeze: New York taxes the interest, yet you still must amortize the premium and shrink your basis just as federal law requires. You don't get to "make up" for it with extra New York basis at sale.

Accountants and tax preparers

New York starts from federal adjusted gross income and federal basis. Absent a specific New York modification, there is no mechanism to restore basis a client lost to required federal amortization - this opinion forecloses that argument.

Common questions

Q: I got no New York deduction for the amortized premium - can't I at least keep the basis? A: No. The Department's position is that basis follows federal law, and no New York provision authorizes a higher basis.

Q: Would itemizing in New York have changed the result? A: The opinion notes the taxpayer took the New York standard deduction; the core point is that no statutory authority exists to increase basis above the federal amount.

Q: Can I rely on this opinion?
A: It binds the Department only as to the petitioner. Use it as guidance and confirm your own facts.

Citations and references

Statutes and regulations:

• Tax Law § 607
• IRC §§ 171, 1012, 1016(a)(5); 26 CFR §§ 1.171-2(b), 1.1016-5(b)

Source

• Landing page: https://www.tax.ny.gov/pubs_and_bulls/advisory_opinions/income_ao_2017.htm
• Opinion: https://www.tax.ny.gov/pdf/advisory_opinions/income/a17_2i.pdf

Original ruling text

New York State Department of Taxation and Finance

TSB-A-17(2)I
Income Tax
March 1, 2017

Office of Counsel
STATE OF NEW YORK
COMMISSIONER OF TAXATION AND FINANCE
ADVISORY OPINION

PETITION NO. I140306A

A Petition for Advisory Opinion was received from REDACTED REDACTED REDAC REDACTED REDACTED R. Petitioner asks whether for New York State income tax purposes his basis in out-of-state municipal bonds would include the premiums he paid at the bond acquisition. We conclude that for New York State income tax purposes a bond holder determines the basis in a bond pursuant to federal law and regulations. There is no Tax Law provision allowing a taxpayer to increase his basis in the bonds for New York purposes beyond his federal adjusted basis. Facts Petitioner purchased at a premium municipal bonds issued by a state other than New York State. Petitioner does not buy or sell municipal bonds in a trade or business. Because the bonds yielded tax exempt interest for federal income tax purposes, Petitioner was required to amortize the premium. Petitioner was required to reduce the basis in the bonds by the amortization amount for the year. For New York State personal income tax purposes, Petitioner was required to add to his federal adjusted gross income (“AGI”) the interest income he received each year that was attributable to the municipal bonds. Petitioner claimed the itemized deduction for federal income tax purposes and the standard deduction for New York personal income tax purposes. Opinion Pursuant to § 1012 of the Internal Revenue Code (“IRC”), when a premium is paid to buy a bond, the premium is part of the basis of the bond. If the bond yields taxable interest, IRC § 171(a)(1) allows a taxpayer a deduction for the amortizable bond premium for the taxable year. IRC § 171(e) provides that the amount of the bond premium is allocated among the interest payments on the bond and, in lieu of a deduction, the amount of the premium allocated to any interest payment is allowed as an offset to the taxable interest payments. This reduces the amount of interest income otherwise includible in federal gross income. When a taxpayer amortizes the bond premium over the life of the bond, the basis of the bond is correspondingly reduced by the amount of the amortized bond premium pursuant to IRC § 1016(a)(5). If the bond yields tax exempt interest, a taxpayer must amortize the premium. However, IRC § 171(a)(2) provides that this amortized amount is not allowed as a deduction in determining taxable income for the

-2-

TSB-A-17(2)I
Income Tax
March 1, 2017

taxable year. Furthermore, each year the basis in the bond must be reduced by the amortization amount for the year. Since Petitioner did not elect to itemize his New York deductions, no deduction is allowed for the amount of premium required to be amortized for the year. (26 CFR §§ 1.1712(b), 1.1016-5(b)). There are no Tax Law provisions allowing a taxpayer to increase its basis above its federal amount even though the taxpayer did not claim a deduction for the amortized premium. In the absence of such statutory authority, Petitioner cannot increase for New York purposes his basis in the non-New York tax-exempt bonds beyond his federal adjusted basis.

DATED: March 1, 2016

/S/
DEBORAH R. LIEBMAN
Deputy Counsel

NOTE:

An Advisory Opinion is issued at the request of a person or entity. It is limited to the facts set forth therein and is binding on the Department only with respect to the person or entity to whom it is issued and only if the person or entity fully and accurately describes all relevant facts. An Advisory Opinion is based on the law, regulations, and Department policies in effect as of the date the Opinion is issued or for the specific time period at issue in the Opinion.