Original Issue Discount

In depth

Original Issue Discount (OID) arises when a note's face value exceeds its issue price, often due to below-market interest rates or zero-coupon structures. The IRS requires OID to be accrued and reported as interest income each year, even if no cash is received. Misconception: OID does not only apply to bonds; it applies to seller-financed real estate notes that fail the AFR or other tests. Practically, in owner-finance deals, OID rules under IRC Section 1274 can apply when stated interest is below AFR. The seller may have to recognize phantom interest income annually. To avoid OID, state at least the AFR, document the deal as a regular installment sale, and have a CPA review structure. OID complications are a leading reason note sellers underprice their notes when selling to institutional buyers.