Tax-Exempt Interest

While you don't have to pay ordinary income tax on it, the IRS wants to know how much tax-exempt municipal bond interest you are receiving, and in some cases it can be used to limit your qualification for certain other tax breaks. Therefore, the total amount of tax-exempt interest from state and local municipal bonds, including mutual funds that invest in these bonds, must be reported on line 8b of Form 1040 or 1040A.

Reporting. The IRS requires payors of tax-exempt interest of $10 or more to furnish an annual report to the recipient of the interest and to the IRS. The payor may be the issuer or a corporate paying agent hired by the issuer. Tax-exempt interest is reported in Box 8 or Box 9 of Form 1099-INT. Either Form 1099-INT or a substitute form may be used. If a substitute is used, it must provide the following information:

Payor's name, address, phone number, and EIN

Payee's name, address, TIN (if available), and account number

Amount of tax-exempt interest paid

Amount of tax-exempt AMT interest, if it can be reasonably determined

Federal income tax withheld, if any

Work Smart

For your own records, you may want to make and retain a list of all of your tax-exempt interest income. You can use a form similar to Schedule B to do it. Just keep it for your files. The IRS doesn't require it.

Tip

Beginning in 2013, a new 3.8 percent net investment income tax may be imposed on individuals whose modified adjusted gross income exceeds $250,000 for joint filers, $125,000 for married taxpayers filing separately, and $200,000 for others. Trusts and estates with income over a certain amount are also subject to the NII tax. Form 8960, Net Investment Income Tax� Individuals, Estates, and Trusts is attached to the tax return. For 2013, the IRS has provided taxpayers the ability to rely on more than one set of net investment income tax rules. The best choice varies by taxpayers and depends on the taxpayer's unique situation. Consult your advisor to determine which approach would be best for you.