Tax on coupons: how it changes the choice of bond

A coupon is taxed in full, with no deductions and no exempt threshold specific to this kind of income.

How it affects comparison

The coupon rate is a pre-tax figure. Comparing issues by it is still fine: the tax is the same. But comparing a bond with an instrument taxed differently by its coupon rate is not.

Accrued interest

Buying a bond between coupon dates means paying the seller the accrued interest. That is not a loss: it comes back with the next coupon. In tax accounting, though, the accrued interest paid is treated as an expense and the coupon received as income, and the two reconcile only at the year end.

Discount at redemption

If a bond was bought below face value and redeemed at par, the difference is income from securities transactions rather than a coupon. Both offsetting and long-term ownership relief apply to it where the conditions are met: Long-term ownership relief: paying no tax without arranging anything in advance.

That makes issues with a low coupon and a large discount more attractive after tax over a long horizon, all else equal.

Inside an IIA

In a third-generation IIA coupon income falls under the general exemption on closing, within the cap — The third-generation IIA: what it gives and what it restricts.

What to calculate

Yield to maturity after tax, not the coupon rate. The metric itself is covered in Yield to maturity: the only honest number a bond has and How to choose a bond, step by step.