How Much Interest Can You Earn Tax-Free?

The amount of interest you can earn tax-free is not a fixed number but a variable figure based on several factors. These include your total income, tax filing status, the type of account holding your funds, and the source of the interest. For some, a significant amount of interest can be earned before any tax is due, while for others, nearly all interest income will be taxable.

How Your Filing Status and Standard Deduction Affect Taxable Interest

For many individuals, the ability to earn interest tax-free comes from the interaction between their income, filing status, and the standard deduction. The standard deduction is a specific dollar amount, determined by the IRS, that you subtract from your adjusted gross income (AGI). This deduction reduces the amount of your income that is subject to tax, and most taxpayers use it instead of itemizing deductions.

The standard deduction amount varies based on your filing status. For the 2024 tax year, the amounts are $14,600 for Single and Married Filing Separately filers. Married couples filing a joint return and Qualifying Surviving Spouses receive a $29,200 deduction, while Heads of Household are entitled to $21,900.

This structure creates a zero-tax bracket for your initial earnings, including any interest you receive. For example, a single individual with no other income could earn up to $14,600 in interest and owe no federal income tax. Similarly, a retired couple filing jointly with $20,000 in Social Security income could earn an additional $29,200 in interest and still pay no federal tax on that interest.

If your total gross income is less than your standard deduction, you may not need to file a tax return.

Sources of Tax-Exempt Interest Income

Beyond the shelter provided by the standard deduction, certain investments generate interest that is inherently exempt from federal income tax. The most common source of this tax-exempt interest is municipal bonds. These are debt securities issued by states, cities, and other governmental entities to fund public projects like schools and highways.

This federal tax exemption makes municipal bonds, or “munis,” attractive to investors in higher tax brackets. The tax benefit can be greater depending on where you live. If you purchase municipal bonds issued by your own state or a locality within it, the interest is often “double-tax-free,” meaning it is exempt from both federal and state income taxes. In some jurisdictions, purchasing a bond from your own city could result in “triple-tax-free” interest.

It is important to distinguish between buying individual municipal bonds and investing in a municipal bond fund. A fund holds a diversified portfolio of many different bonds, offering a convenient way to invest. However, if the fund sells a bond at a profit, it can result in a taxable capital gain distribution to investors.

This tax treatment is distinct from that of U.S. Treasury securities, such as T-bills and Bonds. Interest earned from these federal securities is fully taxable at the federal level but is always exempt from state and local income taxes.

Using US Savings Bonds for Education

A specific tax benefit exists for interest earned on certain U.S. savings bonds when the proceeds are used for educational pursuits. This rule applies to Series EE and Series I savings bonds issued after 1989. To qualify, the bond owner must have been at least 24 years old when the bond was issued, and the bond must be in the owner’s name, not the child’s.

The bonds must be redeemed in the same tax year that the taxpayer pays for qualified higher education expenses for themself, their spouse, or a dependent. Qualified expenses are defined as tuition and fees required for enrollment; costs like room and board are not eligible for this exclusion.

This tax exclusion is subject to income limitations based on your Modified Adjusted Gross Income (MAGI). For 2024, the ability to exclude this interest begins to phase out for taxpayers with a MAGI between $96,800 and $111,800 for most filing statuses. The phase-out range is between $145,200 and $175,200 for those married filing jointly. If your MAGI exceeds these upper limits, you cannot exclude any of the savings bond interest from your income.

Tax-Free Growth in Specialized Savings Accounts

Several types of savings and investment accounts are structured to allow for tax-free growth and withdrawals. The tax benefit comes from the account’s rules rather than the nature of the investment itself, allowing earnings to accumulate without being taxed annually.

A Roth Individual Retirement Arrangement (IRA) is a primary example. Contributions are made with after-tax dollars, but the investments within the Roth IRA grow completely free from federal tax. Qualified withdrawals taken in retirement are also entirely tax-free.

Another tool is the 529 plan, a state-sponsored savings plan for education costs. Contributions grow on a federally tax-deferred basis, and withdrawals are tax-free at the federal level if used for qualified education expenses. These expenses include college tuition, fees, room and board, books, and up to $10,000 per year for K-12 tuition.

Health Savings Accounts (HSAs) are for those enrolled in a high-deductible health plan. Contributions are tax-deductible, the funds can be invested to grow tax-free, and withdrawals are tax-free when used for qualified medical expenses.