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1099-INT, Beneficiary, decedent, estate, Executor, Expenses, Final Return, Formal Probate Process, Interest Income, IRS, IRS Publication 550, Redeem Savings Bonds, Savings Bond Registration, Savings Bonds, Series E Savings Bonds, Series EE Savings Bonds, Series I Savings Bonds
When redeeming savings bonds that are the property of the estate, reporting rules from the IRS can make the transaction a little complicated. As depicted in the article Redeeming Series E Savings Bonds of the Decedent, redeeming savings bonds isn’t a difficult process. However, reporting the interest income on the savings bonds are where the complexities exist. Moreover, since most common executors are unaware of these IRS reporting rules, implications may result.
Note: Savings bonds in this article refer to series E, series EE, and series I savings bonds. Reporting rules from the IRS for these three series of savings bonds are similar. Also, savings bonds become property of the estate in one of the following ways:
- The savings bonds registration is only in the name of the decedent.
- The co-owner or beneficiary pre-deceased the owner.
Basic Rules about Savings Bonds
To properly explore the implications of redeeming savings bonds, an overview of some basic rules is necessary. Here are some basic rules for savings bonds provided by the website Treasury Direct:
- Redeeming savings bonds can only occur after the bonds are 12 months old.
- Owners of savings bonds should redeem all series E and series EE savings bonds that stop earning interest at maturity.
- If you redeem series EE savings bonds before they reach 5 years old, you will lose the last three months of interest.
- Savings bonds are fully taxable at the federal level, but tax-exempt at the state and local level.
- Interest income from savings bonds are subject to federal estate, gift, and excise taxes as well as any state estate or inheritance taxes.
- The savings bond registration can only have two names on the bond: The names of the owner and a co-owner or an owner and a beneficiary.
- If the savings bonds are the property of the estate going through a formal probate process and the savings bonds weren’t left to anyone in the will, the executor must redeem the savings bonds. If the will names someone to receive the savings bonds, the executor will transfer the savings bonds to the rightful owner when distributing property; unless the savings bonds were needed to pay expenses of the estate.
As executor, it’s important to understand the basic rules for savings bonds. However, it’s equally important to understand the IRS rules for reporting interest income on the savings bonds.
Determine How the Decedent Opted to Report Interest During Life
To report interest income on savings bonds correctly, the executor must know how the decedent reported interest income during life. The IRS gives the owners of savings bonds two choices on how to report interest income on their savings bonds. According to the Publication 550(2015) Investment Income & Expenses, the IRS allows the owners of savings bonds the following reporting options:
Accrual method taxpayers. If you use an accrual method of accounting, you must report interest on U.S. savings bonds each year as it accrues. You cannot postpone reporting interest until you receive it or until the bonds mature.
Reporting options for cash method taxpayers. If you use the cash method of reporting income, you can report the interest on series EE, series E, and series I bonds in either of the following ways.
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Method 1. Postpone reporting the interest until the earlier of the year you cash or dispose of the bonds or the year in which they mature.
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Method 2. Choose to report the increase in redemption value as interest each year.
Most savings bonds owners prefer to postpone reporting interest than report the interest annually. However, the executor still needs to confirm which option the decedent used during life.
IRS Rules for the Decedent Reporting Interest Each Year
The method that the decedent used to report interest income determines the manner of reporting interest income on savings bonds. According to the IRS Publication 550(2015) Investment Income & Expenses, rules for reporting interest income of a decedent that chose to report interest each year is as follows:
If the bonds transferred because of death were owned by a person who used an accrual method, or who used the cash method and had chosen to report the interest each year, the interest earned in the year of death up to the date of death must be reported on that person’s final return. The person who acquires the bonds includes in income only interest earned after the date of death.
When redeeming savings bonds that are property of the estate using the above manner of reporting, the executor must determine the amount of interest earned on the savings bonds before death and report the amount on the decedent’s final return. The estate reports only the interest income received after death.
IRS Rules for the Decedent who Deferred Reporting Interest
The IRS has a couple of rules for decedents that used the cash method and deferred reporting interest income. According to the IRS Publication 550(2015) Investment Income & Expenses, surviving spouses or executors must report the interest earned on savings bonds in one of the following ways:
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The surviving spouse or personal representative (executor, administrator, etc.) who files the final income tax return of the decedent can choose to include on that return all interest earned on the bonds before the decedent’s death. The person who acquires the bonds then includes in income only interest earned after the date of death.
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If the choice in (1) is not made, the interest earned up to the date of death is income in respect of the decedent and should not be included in the decedent’s final return. All interest earned both before and after the decedent’s death (except any part reported by the estate on its income tax return) is income to the person who acquires the bonds. If that person uses the cash method and does not choose to report the interest each year, he or she can postpone reporting it until the year the bonds are cashed or disposed of or the year they mature, whichever is earlier. In the year that person reports the interest, he or she can claim a deduction for any federal estate tax paid on the part of the interest included in the decedent’s estate.
So, when redeeming savings bonds that are property of the estate, there are some considerations for the executor. If the executor chooses not to include the interest income on the decedent’s final return, reporting the interest income falls to the estate.
Before deciding, the executor should defer to a tax professional to run some numbers. With the many deductions allowed on the estate income tax return, reporting all the interest income on the estate return may negate the tax on the interest income. Conversely, the decedent’s tax rate is most likely lower than the estate tax rate. This will result in a lower tax on the interest income if reported on the decedent’s final return.
The Estate Tax Deduction
Since the savings bonds are property of the estate, income in respect of a decedent is subject to the estate tax as part of the decedent’s gross estate. As a result, the estate can claim a federal estate tax deduction on any federal estate tax paid on the income. However, the estate tax deduction doesn’t apply to common estates since the gross value won’t meet the threshold required to file estate taxes. Regardless, there is a lot to consider before the executor opts for the second choice; hence, the need to consult a tax professional.
The Implications of Redeeming Savings Bonds
In general, implications result from redeeming savings bonds because most savings bonds owners are unaware of the IRS rules. The same could be said for executors when redeeming savings bonds that are property of an estate. Here are some common implications of redeeming savings bonds that are property of an estate:
- Double Taxation – When the executor redeems savings bonds, the estate will receive a 1099-INT. The 1099-INT will show the full amount of interest income to report from the savings bonds. So, if the decedent reported interest annually, the 1099-INT will not show the reduced amount of interest income already taxed. Therefore, the executor needs to know the amount of interest income already taxed and adjust the 1099-INT accordingly. Since most common executors don’t know about this, they are likely to report the entire amount in the estate return. Consequently, paying the tax twice on the interest income.
- Possible penalty assessments by the IRS – Many savings bonds owners that defer reporting interest income tend to hold their savings bonds beyond the maturity date. Because they think reporting the interest income only occurs in the year of redeeming the savings bonds, they are completely unaware that reporting the interest income also occurs in the year that the savings bonds reach maturity, whichever occurs earlier. Therefore, the IRS may assess penalties for not reporting the interest income for each year past the maturity date. This is a common oversight.
- Higher taxes on the interest income – Most common executors won’t know enough to calculate the interest earned before death. So, they will most likely report the entire amount in the estate return. As a result, a higher tax on the interest income is possible because of the higher estate tax rates.
Fortunately, with a little planning, avoiding these implications can happen.
Avoiding the Implications of Redeeming Savings Bonds
Typically, savings bonds offer a good, safe tax deferred investment backed by the federal government. However, savings bonds come with some complexities when it comes to inheritance and reporting the interest income. So, while planning your estate that includes savings bonds, consider the following steps:
- If you own savings bonds that matured, redeem them.
- Add a beneficiary to your savings bonds through a POD registration if the savings bonds have time left on them.
- If you reported interest income annually, keep a record of the interest income you paid tax on each year. This will help the executor or beneficiary avoid double taxation.
By completing these three steps, any remaining savings bonds in your estate will go to a beneficiary. As a result, the savings bonds avoid becoming property of the estate.
Was this article helpful? Do you understand why leaving savings bonds as property of the estate has implications? Share your comments or questions in the comment box below?
References
IRS Publication 550, Investment Income & Expenses – The publication will go into more detail concerning the treatment of interest income on savings bonds.
IRS Publication 559, Survivors, Executors, and Administrators – This publication will explain the Estate Tax Deduction in more detail.
Treasury Direct – The treasury direct website has all the information regarding government securities.
Treasury Direct Tools
Savings Bond Calculator – The calculator is an online tool that will calculate the value of your paper savings bonds.
My Dad passed away in October 2017. In July of 2019 my mom (sole beneficiary of his estate per his will) found a savings bond in only his name (no POD). What do we need to do? The estate was small and was probated in their local courthouse back in 2018. The final tax return was already filed.
Hi Danyl,
Thanks for contacting me on your dilemma. Unfortunately, with the information you gave me, I can’t directly answer your question. Typically, while the estate is open, the executor can simply sign the back of the bond after showing a death certificate and the letter of authorization to serve as executor. However, since the estate is closed, the process changes depending on how small the estate was. If the estate was small enough to receive a small estate affidavit, you need one form. If not, you need another. Basically, you just need the right form to sign and send with the bond to the treasury. Since I am not an expert on this matter, I went into treasury direct to see how this works. I will provide the link so that you can follow the instructions for your particular situation. Here is the link: https://www.treasurydirect.gov/indiv/research/indepth/ebonds/res_e_bonds_eedeath_eecourtappointed.htm#small. I wasn’t sure if the bonds were series EE, E, or I, so you need to follow instructions for the series.
Here are a couple more options:
1) If researching online is not for you, call treasury direct. They are very helpful and friendly.
2) Visit a local bank that will handle savings bonds and ask them about the process for your situation. I would start with the bank your Mother uses currently. They may even have the form you need to settle the issue.
Anyway, I hope this helps.
Hi Robert,
This is helpful but confusing at the same time based on my situation. My grandfather purchased some E and EE bonds that were POD to my mom. He passed in 1997. My grandmother never gave them to my mother and we found them after her death (2014). My mother, however, passed away (2016) before she could redeem them. They all reached maturity between 1997 and 2013. I am the executor and sole heir of my mother’s estate. I’m working to send the bonds to the treasury for redemption but want to make sure I do it properly.
Would it be better (tax wise) to redeem them in the estate’s account or directly to me?
From reading your article, it seems like there may be some funky tax implications with the interest since they matured during my mom’s lifetime. Thoughts?
Hi JAS,
Thanks for your question. You’re right, bonds are confusing when they become part of an estate. I tried to simplify the subject the best I could. Anyway, if the bonds were left to you in your Mother’s will, then you may be able to reissue the bonds in your name. If you reissue them, then you can redeem them and the proceeds go to you. However, since your name is not on the bonds, and if you weren’t named in the will to receive the bonds, you must redeem them and the proceeds go to the estate. Timing becomes another issue. Since your Mother passed away in 2016, I am assuming her final return was filed last year. Since you are redeeming the bonds in 2018, the option to report the interest income on your Mother’s return most likely expired. As a result, the interest income becomes Income in Respect of the Decedent. This triggers the need for you to file the interest income in a fiduciary return -federal estate income tax return- if the amount of income exceeds $600.00. Hopefully, these bonds were left to you in the will. Otherwise, you will need to consult a tax professional; fiduciary returns are complicated.
Wow, thank you for the amazingly quick response. I should have clarified that she died intestate. The bonds are the only probate asset. Because I’m the only heir, I was appointed administrator of the estate. I’m pretty sure that allows me to have them reissued to me and to then redeemed, which is sounding like the less messy option (and more favorable tax-savings wise) and just report it on MY tax return? Indeed, I filed her final return last year. At the end of the day, I’m just trying to minimize the tax because either way I’m essentially paying it.
So much for hiring an experienced estate attorney to deal with this whose advice was that nothing immediately needed to be done with them!
Jas,
When it comes to savings bonds, it’s all about the registration of the bonds. If those bonds are not registered to you as an owner or beneficiary, you have no claim to them. With that said, when your Mother passed, the bonds became property of the estate. So, don’t make the mistake of thinking you can simply reissue the bonds in your name and redeem them. Unfortunately, the estate is responsible for the taxes on the interest income. Therefore, if the interest income is over $600.00, you will have to report that income in a fiduciary return for the estate. The only question is how to report that income. Is the interest income considered Income in Respect of the Decedent or do you report the income simply as interest income? This issue you have is really an issue for a tax professional.
You may want to listen to your estate attorney. In this situation, it may be better to hold off. Depending on how the estate is set up, you may want to deal with the savings bonds after tax season. If the estate is set up on a fiscal year basis, you have one year and four months from the day the estate was formed to file any fiduciary returns. If the estate is set up on a calendar year basis, you have until April 15th of the following year. So, your estate attorney would know this and is probably the reason you were told that there is no immediate rush to handle the savings bonds.
Please, don’t assume those bonds are yours and listen to your estate attorney.
Oh, one last tip. If you are redeeming savings bonds and you have possession of the bonds, you should consider redeeming them at a bank; preferably the bank where you have the estate account. As executor, they’ll have you sign the back of the bonds and then they will quickly redeem them and move the proceeds into the estate account. It’s really hassle free.
You’re reading more into his advice than is there. It was simply to assign a low priority to them. From there he simply told me to go to the Treasury website and cash them in. The estate was opened June 2016. He didn’t even apply for an EIN. I had to do that this week to be able to open an estate account.
As to your last comment, that’s interesting because I’ve taken them to my. And (which is also the bank where the estate account is) and it will not cash them in. They direct me to the treasury site.
JAS,
If you’re getting advice to redeem the bonds, then redeem them. Since your estate is coming up on two years without dealing with the one asset in probate, I am not sure of your time table for filing your taxes. However, you should find a tax professional skilled in estate taxes to ensure you are filing the correct returns. In fact, you should check if you can file an amended final return to report the interest income on that return. Anyway, redeem the bonds first and get the amount of interest income earned. Then start looking into the tax reporting issue.
A lot of great information, but I have a twist on this situation. My mother in law recently passed and my two kids are set to inherit 25% each of her estate. My husband and I do not stand to inherit. It’s a small estate, below estate tax thresholds, but it does include about $40k in bonds that are still earning interest. My kids will be (hopefully) college bound in a few years. So all that being said, I am assuming that transferring the bonds directly to the kids would nullify the tax free exclusion for using the bonds for education because they are under 24 years old. As the executor, can my husband request some or all of these bonds be transferred to my or his name for the benefit of our kids along with all current interest the bonds have earned so that they can be used tax free for education expenses?
Hi Karen,
Thank you for your question. I have to admit that your question is beyond the scope of my knowledge concerning savings bonds. However, I went on treasury direct to find some answers and this is what I found: The requirement to use a bond for your child’s education below the age of 24 is that the bonds need to be registered in the parents name. So, with that said, you may have to re-issue the bonds in your husband’s name. However, there may be another issue. Depending on how the bonds were left to your children, the bonds may have to go through probate first before they can receive them. So, if the bonds are transferred to your children through the will, the bonds will go through probate. On the other hand, if the bonds had a payable on death registration with their names as beneficiaries, the children are the new owners. For more information try reading this page on treasury direct: https://www.treasurydirect.gov/indiv/research/indepth/ebonds/res_e_bonds_eebuy_register.htm#edu. If you can’t find a satisfactory answer to your question you can contact them directly and they will get back to you. Anyway, I hope this helps a little.
Robert
Hi Karen,
I didn’t like the way I left you hanging last week on this question. So, I contacted Treasury Direct to give some direction. Of course, I had to make some assumptions such as the bonds are series EE or series I savings bonds and that your mother-in-law bought the bonds in her name only. With that said, your husband, as executor, will have to transfer the bonds to your children by instructions of the will. In this case, you can re-issue the bonds in your name because the only name on the bonds is that of a deceased person. However, re-issuing bonds is a taxable event. You will have to pay tax on the interest accrued up to the date of re-issue. Your husband may be able to re-issue in his name, but being the executor, that may cause unrest among the other beneficiaries. So, it’s safer to re-issue the bonds in your name. On the other hand, if your children were named on the bond as beneficiaries, they are the owners of the bond and lose the ability to use those bonds for the education exclusion. Keep in mind, these bonds have very strict guidelines to qualify for the education exclusion. Additionally, even if the bonds qualify for the exclusion, they are not 100% tax free for the purposes of federal tax. Basically, it all comes down to your income as to how much of the tax is excluded.
Basically, if you re-issue the bonds in your name, the tax you will have to pay on the re-issue will be higher based on your tax rate. Conversely, if the bonds stay in your children’s name, they will pay a lower tax due to a lower tax rate. So, this is something to consider as you decide what to do with the bonds.
Anyway, this is just a quick overview of what I learned from Treasury Direct. I plan to publish an article next week on the topic with more specifics, but I want you to know that I am looking into the situation.
Robert
Very clear and exactly what I was looking for.
My mom recently passed away and I found matured bonds (forgotten but all but 1 matured in 2016, so not too bad) in the safe deposit box (she and my grandmother were co-owners).
The bank insists on issuing the 1099 in my social. I assume I just do a nominee distribution and amend my mother’s prior year return?
Hi Laura,
Your question leaves out a lot of important information to answer the question without assumptions. So, I assume that the two co-owners used the cash method of reporting and planned to pay taxes on the bonds as they matured rather than each year. Also, since there were two names on the bonds already(only two names can be on the bonds)that you were able to redeem them as executor. With that said, all the interest on the matured bonds would be reported on your Mother’s final return since all the interest income was earned during her life. Most likely, a portion of the interest on the one remaining bond would also go on your Mother’s return while the portion of interest earned after her death would go on the estate’s income tax return if one needs to be filed. It would be nice if the bank could issue a 1099 using your Mother’s social for the interest income that goes on your Mother’s final return. However, that’s unlikely and because the bonds became property of the estate when your Mother died, the bonds would have to go through probate which necessitates the need for Tax-Id for the state. Then, the bank could issue a 1099 to the estate. This assumption assumes that you were able to redeem the bonds as executor.
However, assuming that you received the bonds as a beneficiary of the will(because two co-owners were on the bonds, you couldn’t be listed as a beneficiary on the bonds), then the bank could issue the 1099 using your social and do a nominee distribution for your Mother’s final return. Although you have time to amend the prior year returns, the procedure I explained relates to final returns. Check with a tax professional if you can use the nominee distribution from a 1099 in the current year to amend a prior year personal return.
I hope this helps.
This is actually useful, thanks.
You’re welcome. Thanks for acknowledging the article.