How Much Tax Do You Pay on Bank Interest?

Interest earned on bank accounts is a common form of income, generally subject to taxation. Understanding how this income is treated for tax purposes is important for financial planning and tax compliance. Tax implications involve specific rules for what is taxable, how it is taxed, and how it must be reported.

Understanding Taxable Bank Interest

Bank interest refers to income earned from funds held in various deposit accounts. This includes interest from savings accounts, checking accounts, money market accounts, and certificates of deposit (CDs). These earnings are almost always considered taxable income for federal tax purposes.

The taxability of this interest does not depend on the amount earned. Even if a minimal amount of interest is received, it is still considered income and is taxable. For example, interest from a high-yield savings account is taxed the same as from a traditional savings account.

How Bank Interest is Taxed

Interest income from bank accounts is taxed as ordinary income. It is added to a taxpayer’s other income sources, such as wages, and is subject to their marginal income tax rate. The United States operates under a progressive tax system, where income is taxed at varying rates, known as marginal tax brackets.

The marginal tax rate is the percentage at which the last dollar of taxable income is taxed. This means income falls into different brackets, each with its own corresponding tax rate. The amount of tax paid on bank interest depends on an individual’s total taxable income and their applicable marginal tax bracket.

Beyond federal income tax, interest income may also be subject to state and local income taxes, depending on residency. Unlike some municipal bonds, bank interest generally does not qualify for federal, state, or local tax exemptions. Taxpayers should consider both federal and state tax obligations when calculating the tax on their bank interest.

Reporting Your Bank Interest

Financial institutions are required to report interest payments to the Internal Revenue Service (IRS). If a bank pays $10 or more in interest to an individual, it will issue Form 1099-INT, “Interest Income.” This form details the amount earned and is mailed to account holders by January 31st of the following year.

Even if interest earned is less than $10 and a Form 1099-INT is not received, the income is still taxable and must be reported on their tax return. Taxpayers can gather total interest from year-end bank statements or online summaries. This information is then entered on Form 1040, the main individual income tax return.

If total taxable interest from all sources exceeds $1,500, taxpayers must complete and attach Schedule B, “Interest and Ordinary Dividends,” to their tax return. Schedule B provides a detailed breakdown of interest income and reports the names of institutions that paid interest, along with amounts received. Maintaining accurate records of all interest earned is essential for proper tax compliance.