Hopefully this will be easy to follow, I've been holding out on writing it until I get a decent sleep but it's never going to happen so I'll dive in. Smashwords have a particular method of hyperlinking the table of contents. You can use this one for Kindle. Basically, you're linking from your chapter/story titles in your index to the chapter/story titles throughout the book. You're also linking from the chapter/story titles throughout the book back to the index. It makes it easier for the reader to move around the book. I used this method of linking back to the index on my kindle version too. Both ways seem to work quite well on the Kindle. On Smashwords, it is supposed to work in certain formats only, once your book is converted. EPUB, MOBI and PDF. As far as I am aware, a linkable table of contents is required to submit your ebook to Sony.
I followed the Smashwords Style Guide, the information on hyperlinking is a little over half way through the book. Of course, if you use an EPUB, MOBI or PDF version, you can easily click on the link in the table of contents to go directly to the right section. First of all, make sure you have a full table of contents listing all of your story titles/chapter headings. Don't add page numbers because they don't matter in ebook form.
As per the instructions, I went through my entire document, highlighting all of the story titles (chapter headings) and inserting bookmarks. In my Word program, I went to the Insert tab, looked for the links section and added a bookmark for each title. When you click on bookmarks, a dialogue box appears. You type in the name of the bookmark (no spaces), then click add. You'll be using these bookmark titles later so it is very useful if you use the exact title of your header. It makes it easier to find and harder to make a mistake. In my case, the first one was SkeletonInTheCloset but if it was a novel of mine it would have been ChapterOne, for example. Add these bookmarks to all of the story titles/chapter headings and don't forget to add a bookmark to the heading on the table of contents page itself.
Next you create hyperlinks to all of the bookmarks you made. Go to the Table of Contents page. Select the first story title/chapter heading to highlight it. In the same place as before, (the Insert tab and then the Links section) click on hyperlink. A dialogue box appears. To the left, it is automatically selected to "Existing file or web page." Right under this is a box called "Place in this document" - click on this. All of the bookmarks you previously created should show up in alphabetical order. Click on the relevant bookmark (for example my first one was SkeletonInTheCloset) then click okay. Your first story title/chapter heading in your contents section is now linked to your first story/chapter.
Follow this step for each title/heading in your Table of Contents. Next, go through the document and highlight the story titles/chapter headings and link all of these back to the bookmark you created for the table of contents itself. Linking both ways makes it easier to flip through the book. Finally, test all of the links by clicking on each title in the Table of Contents which should bring you to the relevant stories/chapters. Click on all of the story titles/chapter headings throughout the book to test the links you made back to the Table of Contents.
That's it. All done. This should upload to Smashwords without any problems. It takes a bit longer than the other version I talked about but it is still relatively simple once you follow the steps.