Amortizable Bond Premium
Big term, simple concept. When a bond has a higher coupon than current interest rates, you pay a premium for it (i.e., more money). That premium can be amortized for tax purposes, meaning that it is split up over a period of years.
Put simply, you then take a portion of that premium each year against your cost basis (what you actually paid for it). Like...you paid $1,050 for a $1,000 par value bond with a coupon of 6% coming due in 5 years. You'd get 60 bucks a year for those 5 years...but you'd amortize away for tax purposes the 10 bucks you lost each year for 5 years as the premium value of the bond declined on its way to par.
That is, you'd pay taxes on 50 bucks (ordinary income), not on the $60 in cash you made as the amortization of the decline in value from premium to par functions essentially as a tax buffer.
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Finance: What is Amortization?49 Views
Finance a la shmoop what is amortization alright come on now people
sing it with me when you repay your loan overtime on your own that's amortization [man singing serving food and dogs jump up]
doesn't everyone know that song i was raised as a kid with that at bedtime
all right well sorry about that every now and then Beyonce being Crosby has to [Beyonce on stage]
you know let out her inner self here so yeah amortization big word let's make it
smaller we've got the root word Mort in there which means death and yeah [Mort highlighted in yellow]
basically when you're amortizing alone you're killing your obligation to pay it [a knife pulled on the loan]
and softly, killing softly with his song and yes another way you're gradually reducing
your obligation by paying back the loan you know whatever you borrowed your
amortizing all right so once a loan is fully amortized the amount you owe is [loan bill due amount]
zero like you paid it all back all right well that's one definition of the term
amortization also refers to a fancy way of allocating costs like you pay a
thousand dollars for an amazing bed mattress well did you get value from it [man paying $1000 for a bed and hands cash to woman]
well if you use it a lot you'll amortize the cost in such a way that the bed on a
per night basis is cheap how so well if you sleep on it for 2,000 nights before [calculation for value of bed]
you toss it some dumpster somewhere you paid 50 cents per night for your bed got
it fifty cents times two thousand that's a grand and that's like a nickel of hour of
use if you're know sleeping 10 hours a day or using it ten hours a day and [man sleeping in vibrating bed]
that assumes it's just you in the bed all right well what about a prom dress
or a tux well the finest Walmart prom dress runs [girl holding a prom dress for $300]
about 300 dollars but you wear it once before Tyler Hendricks vomits on it and [Tyler vomits on girls prom dress]
well and you're done so it cost 300 bucks for one night or
about fifty bucks an hour for the six hours you wore it before tossing it yeah
way expensive per use because you only had six hours of amortization the dress [calculation for the value of prom dress]
well loans work the same way you borrow 120 grand to buy a home with a 30-year
mortgage over those 30 years you amortize the loan or allocate the paying [woman receiving a 30-year loan for a mortgage]
down of that 120 k you just borrowed over a long period of time so you know
something keep in mind the next time you go shopping for a bed or a dress [a couple shopping for a bed]
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