Fixed income securities are dependent on laws and regulations of the place of issuance, the place where bonds are traded, and on the holders of bonds.
National and Foreign Bonds
National bonds are issued and traded in a country. Domestic bonds are issued by local entities while entities from other countries issue fixed-income securities called ‘foreign bonds.’ When General Motors issues bonds in the United States, these are domestic, whereas if Toyota issues bonds in the United States in US dollars, these are foreign bonds.
The Eurobond market was developed in the 1960s largely to avoid regulatory and tax issues, especially in the United States. Eurobonds are denominated in a currency other than the home currency of the country or market in which it is issued. They are less regulated, usually unsecured, and underwritten by an international syndicate. Eurobonds are usually in bearer bond form, which means the trustee does not keep record of the owners so that the company issuing the bond is free of withholding tax. Conversely, most other bonds are registered bonds, which means the owner’s name and contact information is recorded and kept on file with the company, allowing it to pay the bond’s coupon payment to the appropriate person.
Taxation of Bonds
The income portion of bond investments is taxed at the income tax rate like any other income. However, there may be tax-exempt securities such as US municipality bonds. A bond investment may also generate a capital gain or loss. In some countries, there is a different tax rate for long-term and short-term capital gains. For instance, income recognized for more than 12 months are assumed to be long-term capital gains and taxed at the long-term capital tax rate.
If a Canadian mining company decides to go to Australia to issue bonds denominated in Canadian dollars, this would be an example of a:
B. Bearer bond
C. Foreign bond
The correct answer is A.
Eurobonds are denominated in a currency other than the home currency of the country or market in which it is issued.
On the other hand, if a Japanese company would issue bonds in Canada denominated in Canadian dollars, this would be an example of a foreign bond.
A 12-year zero-coupon bond with a par value of $100 issued at $88 would be taxed:
A. $12 at the end of the 12th year
B. $1 at every tax year and no capital gain is declared at maturity
C. For ordinary yearly profit and capital gain at maturity
The correct answer is B.
The prorated portion of profit must be accrued each year.
Option A is incorrect as taxes are declared based on profits calculated on accrual accounting principles.
Option C is incorrect as the investor makes ordinary income and no capital gain is made at maturity.
Reading 42 LOS 42d:
Describe how legal, regulatory, and tax considerations affect the issuance and trading of fixed-income securities