Inherited muni bonds

[appelman]

A muni bond is inherited, with a stepped-up basis that is above par. It subsequently matures and is redeemed at par. Is the loss recognized as a capital loss or only offset against tax-exempt income?

[Burke]

The redemption is a taxable event even if the income was not. So you have a deductible loss.

[appelman]

Alas, probably not.

It appears that the same rules apply to muni bonds obtained in a market transaction or by inheritance as apply to original issue premium: Whenever munis are obtained at a premium, the premium must be amortized over the remaining life of the bond, bringing the basis back down to par at maturity. The amortized premium gives no tax benefit along the way, though I believe it can be offset against tax-exempt income.

[Roland Slugg]

I concur with appelman. There is no recognized gain or loss on T-F muni bonds that are held to maturity. If the bonds had been sold prior to maturity, there could be a recognized gain or loss, but first their basis would have to be adjusted by the amortized market discount, or in this case market premium, from the date acquired to the date sold.

[Davc]

The amortized premium gives no tax benefit along the way,

It could reduce taxable SS or state tax.