Can I Deduct Margin Interests Costs for a Municipal Bond ETF (MUB)?

[cyrix]

Jurisdiction

California

I used margin to buy MUB, a municipal bond ETF.
Can I deduct the margin interests in my tax returns, when the ETF holds municipal bonds which produce tax-free returns?
Thanks.

 

[army judge]

Can I deduct the margin interests in my tax returns, when the ETF holds municipal bonds which produce tax-free returns?

Before you do anything you might wish to ask your CPA or tax attorney.

You could put your question in writing and send it via letter to the IRS, eventually you'll receive a written response advising you accordingly.

Keep the written response if you act on the written response of the IRS just in case you get audited.

You can then defend your actions based upon WRITTEN advice of the IRS official.

 

[Tax Counsel]

I used margin to buy MUB, a municipal bond ETF.
Can I deduct the margin interests in my tax returns, when the ETF holds municipal bonds which produce tax-free returns?
Thanks.

The answer to that question is no. Federal tax law does not allow for deductions of expenses to produce NON taxable income.

You could put your question in writing and send it via letter to the IRS, eventually you'll receive a written response advising you accordingly.

As an FYI for the OP, in order to get a written answer from the IRS upon which you may rely you must make a request for a private letter ruling (PLR), which by federal statute the IRS must charge you a fee that covers the IRS cost of providing the advice. PLRs are written by IRS attorneys and the fees charged for PLRs reflect that. In short, it isn't cheap. If you do get a PLR, then you must attach a copy of that letter to your return when you file it. As a result of all this, PLRs are generally only sought by taxpayers contemplating rather significant transactions in which it is important to lock down what the tax treatment will be before doing the transaction.

 

[cyrix]

The answer to that question is no. Federal tax law does not allow for deductions of expenses to produce NON taxable income.
.

Please note that while the interests from the ETF are tax free, the main returns of the ETF are from capital gains which are taxable.
In this case, are the margin interest deductible or not?
Thanks.

 

[Tax Counsel]

Please note that while the interests from the ETF are tax free, the main returns of the ETF are from capital gains which are taxable.
In this case, are the margin interest deductible or not?
Thanks.

It would be deductible, at least in part. You're likely going to need to allocate the margin interest paid between the taxable and nontaxable income and there are other limits that may apply to the deduction depending on your circumstances. See Publication 550 for a discussion of the limits.