When you earn interest from U.S. Treasuries in a taxable account, the interest is exempt from state and local taxes. How the interest is reported on tax forms depends on whether you hold Treasuries directly or through mutual funds and ETFs.
Interest from Treasury Bills and Notes
When you buy Treasuries in a brokerage account — see How To Buy Treasury Bills & Notes Without Fee at Online Brokers and How to Buy Treasury Bills & Notes On the Secondary Market — you’ll see the interest reported on a 1099-OID form for Treasury Bills or a 1099-INT form for Treasury Notes and Bonds.
![](https://thefinancebuff.com/wordpress/wp-content/uploads/2023/02/1099-oid-treasury.jpg)
Interest from Treasury Bills is reported separately in Box 8 on a 1099-OID form.
![](https://thefinancebuff.com/wordpress/wp-content/uploads/2023/02/1099-int-treasury.jpg)
Interest from Treasury Notes and Bonds is reported separately in Box 3 on a 1099-INT form.
Your tax software knows about these special fields in the tax forms. Whether you import the tax forms from your broker or enter them manually, the software will automatically mark the interest as exempt from your state income tax.
Treasuries in Mutual Funds and ETFs
When you invest in a mutual fund or an ETF that holds Treasuries, the interest earned from Treasuries by the mutual fund or the ETF is passed on to you in the fund’s dividends together with any other income earned by the fund. When you have multiple mutual funds or ETFs in a taxable brokerage account, the broker reports dividends received from all sources on one 1099-DIV form.
Many money market funds and bond funds hold Treasuries. If you have money market funds and bond funds in a taxable brokerage account, a good part of their dividends may have come from Treasuries. The portion of fund dividends attributed to interest from Treasuries isn’t qualified dividends. It’s taxed at normal tax rates for federal income tax but it’s still exempt from state and local taxes.
The broker supplies a breakdown of the dividends by source. It’s up to you to determine how much of the dividends from each source came from Treasuries. Suppose you own four funds in a taxable brokerage account that paid $6,500 in total dividends. Your goal is to fill out a table like this with the percentage of dividends from Treasuries for each fund and calculate your total dividends from Treasuries:
Fund | Total Ordinary Dividend | % from Treasuries | Dividend from Treasuries |
---|---|---|---|
Fund A | $500 | 0% | $0 |
Fund B | $1,000 | 65% | $650 |
Fund C | $2,000 | 10% | $200 |
Fund D | $3,000 | 90% | $2,700 |
Total | $6,500 | $3,550 |
Government % from Fund Managers
Although the 1099-DIV form and the dividend breakdown by funds are provided by the broker, you’ll have to get the number for the “% from Treasuries” column from the managers of your mutual funds and ETFs.
If you own Vanguard mutual funds or ETFs in a Fidelity brokerage account, you get this information from Vanguard, not from Fidelity. Similarly, if you own iShares ETFs in a Charles Schwab brokerage account, you get the information from iShares, not Charles Schwab.
Google “[name of fund management company] tax center” to find the information from the fund manager.
Vanguard
Vanguard publishes the information in its Tax Season Calendar. Look for “U.S. government obligations information.”
Fidelity
Fidelity publishes the information in Fidelity Mutual Fund Tax Information. Look for “Percentage of Income From U.S. government securities.”
Charles Schwab
Charles Schwab Asset Management publishes the information in its Distributions and Tax Center. Look for “[20xx] Supplementary Tax Information.”
iShares
iShares publishes the information in its Tax Library. Look for “[20xx] U.S. Government Source Income Information.”
CA, NY, and CT Residents
California, New York, and Connecticut have additional requirements for exempting fund dividends earned from Treasuries. The fund management company will note in its published information whether a fund met the requirements of CA, NY, and CT. If a fund didn’t meet the requirements, the Treasuries percentage is treated as 0% for CA, NY, and CT residents.
For example, Vanguard Federal Money Market Fund earned 37.79% of its income from U.S. government obligations in 2022. Because it didn’t meet the requirements of CA, NY, and CT, investors in these three states must still pay state income tax on 100% of this fund’s dividends. People in other states pay state income tax on only 62.21% of this fund’s dividends.
Tax Software
You need to give the result to your tax software after you get the “% from Treasuries” for each fund and calculate your dividend from Treasuries with a table like this:
Fund | Total Ordinary Dividend | % from Treasuries | Dividend from Treasuries |
---|---|---|---|
Fund A | $500 | 0% | $0 |
Fund B | $1,000 | 65% | $650 |
Fund C | $2,000 | 10% | $200 |
Fund D | $3,000 | 90% | $2,700 |
Total | $6,500 | $3,550 |
It’s easy to miss the entry point for this input unless you really look for it.
TurboTax
![](https://thefinancebuff.com/wordpress/wp-content/uploads/2023/02/state-tax-exempt-tt-govt-interest-1024x316.jpg)
After you import or enter the 1099-DIV form, you need to check a box to say that a portion of the dividends is U.S. Government interest. It’s easy to miss because TurboTax says it’s uncommon, which isn’t true.
![](https://thefinancebuff.com/wordpress/wp-content/uploads/2023/02/state-tax-exempt-tt-treasury-amount-1024x177.jpg)
Now you enter the amount you calculated in your table.
H&R Block
![](https://thefinancebuff.com/wordpress/wp-content/uploads/2023/02/state-tax-exempt-hrb-checkbox.jpg)
H&R Block software shows a checkbox at the bottom of the 1099-DIV entries. This field doesn’t come in the import. It’s easy to miss because it’s at the bottom of a long form. You have to really look for it.
![](https://thefinancebuff.com/wordpress/wp-content/uploads/2023/02/state-tax-exempt-hrb-percentage.jpg)
Instead of asking about the dollar amount, H&R Block goes by percentage. It forces you to do a bit of math. In our example, $3,550 from Treasuries divided by $6,500 total ordinary dividends is 54.62%. So we enter 54.62.
FreeTaxUSA
![](https://thefinancebuff.com/wordpress/wp-content/uploads/2023/02/state-tax-exempt-ftu-checkbox-1024x432.jpg)
FreeTaxUSA has a radio button at the bottom of the 1099-DIV entries. It’s easy to miss because it’s at the bottom of a long form. You have to really look for it.
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Most of the work in calculating the amount of fund dividends exempt from state and local taxes is in hunting down the percentage of income from Treasuries for each fund and ETF in your taxable brokerage account. You need to give the calculated amount to your tax software, which doesn’t make it obvious where the number should go.
A similar process also applies to muni bond funds and ETFs. A portion of the fund dividends is exempt from your state income tax (“double tax-free”). I’ll cover that topic in a separate post.
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