If you're young -- ay, under 35 -- and have a little extra cash you want to bury for retirement time, here's a new option available to you: zero-coupon municipal bonds.
As I explained a few weeks ago, a zero-coupon bond is bought at a substantial discount, pays no interest during its lifetime, then is redeemed at full face value on the maturity date.
If you buy a corporate zero-coupon, you must report each year -- and pay tax on -- a share of the accumulating interest even though you receive no cash until maturity.
This disadvantage does not apply to zero-coupon municipals, since there is no federal income tax liability. And if you pick up a bond issued in your state of residence, you're not liable for state income tax on the interest either.
Let's look at a representative example: Virginia Housing Development Authority zero-coupon bonds due Sept. 1, 2014. These 32-year municipals are discounted to offer a compounded annual yield of 12.58 percent.
These figures were true on the day this column was written, but may have changed a little -- up or down -- by publication.
The offering price is, believe it or not, only $20 per $1,000 bond. So a 30-year-old can put down $20,000 and expect to collect $1 million, free of federal income tax, at age 62.
Of course there are some caveats. Virginia is economically strong now, and these HDA bonds are rated AA. You have to assume this will continue to be true and that your investment is relatively low-risk.
You should only use funds for which you foresee no need in the coming years. This is a new investment area, and no one knows if there will be a resale market for zero-coupon municipals later on.
Even if a market does develop, it is likely to be relatively thin, that is, inactive. A forced sale before maturity might bring considerably less than the calculated value.
In addition to market uncertainties, the value of the bonds will be susceptible to changes in interest rates, varying inversely with those rates just as other bonds do.
And you're speculating on the long-term course of inflation. Even at a moderate rate such as 2 percent, the purchasing power of $1 million would be cut almost in half in 32 years. A return to double-digit inflation would be disastrous for this as well as other fixed-rate investments.
But if you have a little extra money to stash away, you think long-range inflation will be moderate and you believe in the economic future of Virginia, here's an investment with a big tax-free payoff down the pike.
If you don't live in Virginia, you would have to report each year a part of the eventual payoff for state income tax purposes, although the federal exemption is still valid. If this idea appeals to you, check with your broker, who may know of a comparable issue in your home state.
Question: If we save all of our sales receipts for the year, can we deduct the total tax actually paid when we itemize? My husband and I thought we would beat the allotted deduction by doing this. And wouldn't it be nice if department stores let you know the total tax paid, in addition to how much was paid in financing charges?
Answer: It is perfectly legal to claim on Schedule A the amount of sales tax actually paid during the year. To quote the IRS tax instruction booklet, these are "Optional State Tax Tables."
So if you keep records during the year and those records show that you paid more sales tax than the table allows, by all means claim the full amount.
But when you look up the amount in the table for comparison, remember to add to your adjusted gross income all nontaxable income like Social Security, municipal bond interest and the untaxed portion of capital gains.
I suggest you explain any amount that is substantially higher than the table allowance. This simply means a little note right on Schedule A like "recorded" if you use your own tally, or "includes $ X of nontaxable income."
For those people interested in keeping track of sales tax it would be nice to get the total on your year-end statements. But I don't see it happening.
Programming the computer wouldn't be difficult -- but it would require additional operator time for data input and at least one and perhaps two extra fields in memory for each of thousands of accounts.
That adds up to an expensive operation to provide information that I suspect most customers are not really interested in getting.