Investment Company and Variable Contracts Products Representative (Series 6)Practice Exam

Though subject to federal tax, interest on Treasuries is exempt from ________ and ________ tax.

1. State and local

2. Federal and state

3. Local and corporate

4. State and federal

The correct answer is: State and local

Interest on U.S. Treasury securities is indeed subject to federal income tax but is exempt from state and local taxes. This exemption is significant as it makes Treasury securities an attractive investment option for individuals in higher state tax brackets, as they can receive interest income without the additional burden of state and local taxation. The rationale behind this tax treatment is to encourage investment in government debt, thereby enhancing liquidity and demand for such securities. State and local governments cannot tax the interest income from these federal obligations, which supports the principle that the federal government should not be competing with state and local entities in terms of income taxation. In contrast, federal tax still applies to the interest earned on these securities, which eliminates the possibility of any option claiming both federal and state exemptions as a valid choice. Therefore, the answer highlighting the exemption from state and local taxes reflects the correct understanding of how Treasury interest is treated in the tax system.