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Is Treasury Only MM Interest Exempt From State Taxes?

edited October 2023 in Technical Questions
Interest on US Treasury Obligations is exempt from state and local income taxes.

Just curious if this also applies to the Treasury Obligations held within Treasury Only money market funds?

Thanks,

Fred

Comments

  • edited October 2023
    Direct obligations of the US Government are excluded from state/local taxes.

    Indirect obligations are NOT exempt. So, excludes are Treasury repos, GSEs (GNMA, Fannie Mae, Freddie Mac, etc).

    US Savings Bonds are also NOT exempt.

    The difference between Treasury MMF and Treasury-only MMF is that the former rely heavily on Treasury repos - so a bit higher rate but less state tax exemption (that may be fine for low/no tax states).

    www.ncdor.gov/interest-income-us-obligations
    tax.illinois.gov/content/dam/soi/en/web/tax/research/publications/pubs/documents/pub-101.pdf
    www.irs.gov/taxtopics/tc403
  • Thank you very much for the information. Much appreciated, yogi.

    However, I noticed that the Illinois tax publication you referenced states that:

    "The following types of income are exempt from Illinois Income Tax:

    Interest on U.S. Treasury bonds, notes, bills, certificates, and savings bonds."

    Seems like savings bond interest is tax exempt in Illinois. Maybe the exemption for savings bonds varies by state?

    Fred
  • msf
    edited October 2023
    Here's a good piece from the Sept. 8 (online) or Sept 9 (print, p. B2) edition of the WSJ:
    https://www.wsj.com/personal-finance/taxes/bonds-bond-funds-state-taxes-cd066239
    [Per SC] [T]he Constitution prohibits the states from taxing federal debt. But the prohibition provides blanket relief only for interest on Treasury securities, including savings bonds.

    [Per ICI tax attorney] Congress decides when setting up an agency whether its bonds will be state-tax free ...

    Aside from Treasury debt, state-tax free bonds include those from agencies such as the Federal Farm Credit Banks, Federal Home Loan Banks, Sallie Mae and the Tennessee Valley Authority. Yet interest on mortgage bonds from Ginnie Mae, Fannie Mae and Freddie Mac is subject to state taxes.
    See also Raymond James table on which GSEs are exempt:
    https://www.raymondjames.com/wealth-management/advice-products-and-services/investment-solutions/fixed-income/taxable-bonds/government-sponsored-enterprise-debt-securities

    Regarding the original question: Treasury obligations held within MMFs are state exempt, but the fund's income exemption is prorated by the fraction of interest coming from exempt debt. Even Treasury Only MMFs may generate some small amount of state-taxable income. For example, last year (2022) FDLXX was only 93.63% exempt.

    https://www.fidelity.com/bin-public/060_www_fidelity_com/documents/taxes/Revised-GSE-(SA-AA)-Letter.pdf

    Should a "not only" Treasury fund be less than 50% exempt, then a few states will tax 100% of the income. (See '*' footnote in linked Fidelity statement above.)
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