Do You Have to Pay Taxes on Bank Interest?

Interest earned on bank deposits in the United States is generally subject to taxation. This includes interest from various types of accounts, such as savings accounts, checking accounts, money market accounts, and certificates of deposit. This interest is considered income by the Internal Revenue Service (IRS) and must be reported on an individual’s federal income tax return.

Understanding Taxable Bank Interest

Interest earned from funds held in bank accounts is typically classified as ordinary income. This means it is taxed at an individual’s regular income tax rate. This tax treatment applies to interest from common deposit accounts like savings accounts, checking accounts, money market accounts, and certificates of deposit (CDs).

Even small amounts of interest are considered taxable income. For instance, if a savings account earns only a few dollars in interest, that amount is still technically taxable. The principal amount deposited into a savings account is not taxed, as it represents money that has typically already been taxed. Only the interest earned on that principal is subject to income tax.

Reporting Bank Interest to the IRS

Financial institutions play a role in reporting interest income to both taxpayers and the IRS. Banks and other financial entities typically issue Form 1099-INT, “Interest Income,” to account holders by January 31st of the year following the interest accrual. This form is issued when the total interest paid to an individual in a calendar year reaches $10 or more.

Form 1099-INT details the amount of interest earned. Taxpayers generally report their taxable interest income on Form 1040. If the total taxable interest from all sources exceeds $1,500, taxpayers are typically required to complete and attach Schedule B (Form 1040), “Interest and Ordinary Dividends,” to their tax return. It is important to note that all taxable interest, regardless of the amount or whether a Form 1099-INT was received, must be reported to the IRS.

Situations Where Interest May Not Be Taxed or Reported

While most bank interest is taxable, certain scenarios exist where interest may not be taxed or may not trigger a Form 1099-INT from the financial institution. Banks are not federally required to issue a Form 1099-INT for interest amounts less than $10. However, even in these instances, the taxpayer is still responsible for reporting any interest earned, regardless of how small the amount.

Some types of interest are generally exempt from federal income tax. The most common example is interest earned from municipal bonds, which are debt securities issued by state or local governments. This interest is typically free from federal taxes and may also be exempt from state and local taxes if the bond is issued within the investor’s state of residence. Additionally, interest earned within certain tax-advantaged accounts, such as Health Savings Accounts (HSAs) or Roth Individual Retirement Accounts (IRAs), may be tax-free. These specific account types have their own rules regarding contributions and withdrawals that determine the taxability of earnings.