Ethan Riley
When it comes to taxes and bank accounts, the interest earned on savings accounts is typically the main concern. This interest is generally considered taxable income by the IRS and is taxed according to your income bracket. While you may not receive a tax form for interest earnings under $10, you are still required to report and pay taxes on any interest accrued. Banks are also required to report interest earnings over $10 to the IRS, and failure to do so can result in penalties. Understanding how your savings account interest is taxed can help you stay compliant with IRS regulations and optimise your tax efficiency.
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What You'll Learn
Interest income is taxable
Interest income is generally considered taxable income. This includes interest earned on savings accounts, which is taxed at your normal income tax rate. The IRS considers interest earned on savings accounts as taxable income, regardless of whether you keep the money in the account, transfer it to another account, or withdraw it.
Interest income from Treasury bills, notes, and bonds is subject to federal income tax but is exempt from state and local income taxes. Interest on some bonds used to finance government operations and issued by a state, the District of Columbia, or a U.S. territory is reportable but not taxable at the federal level.
For the 2024 and 2025 tax years, the income tax rate ranged from 10% to 37%. Banks are required to report interest income to the IRS if it totals $10 or more over the year. However, you must report all interest income, even if it is less than $10. This is done through Form 1099-INT, which shows the amount of interest earned in the previous year and is used to report taxable interest income.
It is important to note that some interest income may be tax-exempt. For example, interest on Series EE and Series I U.S. Savings Bonds is generally not taxable until the bonds are redeemed, disposed of, or mature. Additionally, interest on insurance dividends left on deposit with the Department of Veterans Affairs is not taxable.
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Report interest earned to the IRS
Banks are required to report interest earned on your savings to the IRS if it totals $10 or more over a year. However, you must report all interest earned on your savings to the IRS, even if it is less than $10 and regardless of whether you receive a tax form from your bank. This is done by filing a standard tax return using Form 1040, where you report your savings account interest on line 2b, designated for "taxable interest".
Your bank will send you a Form 1099-INT for any interest earned over $10, which you can use to report your interest income. This form will also include any cash bonus you received for signing up for your savings account, which is also taxable. You must give the payer of interest income your correct taxpayer identification number; otherwise, you may be subject to a penalty and backup withholding. You may receive Form 1099-INT as part of a larger statement from a broker.
Interest income from Treasury bills, notes, and bonds is subject to federal income tax but is exempt from all state and local income taxes. You can elect to include the interest in income each year, but you generally won't include interest on Series EE and Series I U.S. savings bonds until they mature or are redeemed or disposed of. Interest on some bonds used to finance government operations is reportable but not taxable at the federal level.
If you have a joint savings account, the person who provides their Social Security number to the bank is typically responsible for reporting the interest income. If both account holders are responsible for filing taxes, they may need to coordinate on how to report the income.
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Tax-efficient savings accounts
Savings accounts are usually taxed on the interest accrued during the year. This interest is classified as income by the IRS and is subject to federal income tax and, in some cases, state income tax. The tax rate varies according to individual income tax brackets, ranging from 10% to 37% for the 2024 and 2025 tax years. While the interest earned is taxable, individuals are responsible for reporting and paying taxes on it, even if they do not receive a tax form from their bank.
To optimize tax efficiency, individuals can explore various tax-advantaged savings accounts, which offer tax breaks to encourage saving for specific goals. Here are some examples of tax-efficient savings accounts:
- Roth IRA: A Roth IRA is a personal retirement account that allows tax-free growth and withdrawals. Contributions are made from after-tax earnings, and individuals can withdraw their money tax-free after reaching the age of 59½, provided the account has been open for at least five years.
- Traditional IRA: Traditional IRAs allow individuals to deduct their contributions from their income, lowering their tax burden for the year of contribution. The money grows tax-free, and taxes are paid on the interest upon withdrawal, based on the individual's current income tax rate.
- 401(k): An employer-sponsored 401(k) plan enables individuals to defer a portion of their paycheck toward retirement savings. With a traditional 401(k), contributions are not taxed, reducing an individual's total taxable earnings for the year.
- Health Savings Accounts (HSAs): HSAs are used to save for future medical expenses and provide tax benefits upon contribution and withdrawal. Contributions are generally tax-deductible, and withdrawals are tax-free when used for qualified medical expenses.
- 529 College Savings Plans: These plans are offered by states or educational institutions to help parents save for college education. Contributions grow tax-free, and withdrawals are tax-exempt when used for qualifying education expenses. Some states offer additional tax deductions or credits for contributions to 529 plans.
- Coverdell Education Savings Accounts (ESAs): Similar to 529 plans, Coverdell ESAs offer tax-free withdrawals for qualified education expenses. They provide more flexibility, as funds can be used for a wider range of expenses beyond tuition, and there is no limit on withdrawal amounts.
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Tax on different account types
Savings accounts are taxed based on the interest accrued during the year. This interest is considered taxable income and must be reported to the IRS, even if it is less than $10. The IRS determines how much tax you pay based on your income tax bracket. The interest is taxed at your earned income tax rate for the year, which, for the 2024 and 2025 tax years, ranges from 10% to 37%. Banks are only required to report interest income to the IRS if it totals $10 or more over the year, and they will send you a Form 1099-INT for any interest earned over $10. However, you must report all interest income, even if it is just a few dollars, and pay taxes on it.
Traditional and Roth individual retirement accounts (IRAs) allow interest on savings to accrue tax-deferred. You don't have to report the earnings on these tax-advantaged retirement accounts as taxable income from year to year. With a Roth IRA, you pay income taxes on the deposits in the year you make them, and then you don't owe taxes on the principal or any earnings as long as you withdraw the money after age 59 1/2.
Interest on some accounts is tax-exempt. For example, you do not have to pay interest earned on 529 plans, which are accounts designed to help pay for education. Interest on Series EE and Series I bonds issued after 1989 may also be excluded from income when used to pay for qualified higher education expenses.
Additionally, interest income from Treasury bills, notes, and bonds is subject to federal income tax but is exempt from state and local income taxes.
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Tax forms and penalties
In the United States, the interest earned on savings accounts is typically taxed as ordinary income. This means that it is taxed at your normal income tax rate, which ranges from 10% to 37% for the 2024 and 2025 tax years. The interest earned is classified as taxable income, and you must report it to the IRS. While the bank will send you a Form 1099-INT for any interest earned over $10, you are still responsible for reporting and paying taxes on any interest earned, regardless of whether you receive this form. Failure to do so can result in penalties.
For joint savings accounts, the person who provides their Social Security number to the bank is typically responsible for reporting the interest income. If both account holders are responsible for filing taxes, they may need to coordinate on how to report the income. When filing a standard tax return using Form 1040, you will report your savings account interest on line 2b, designated for "taxable interest."
It is important to note that the original money you deposit into your savings account has already been taxed. You are only taxed on the interest the bank pays you. Additionally, certain types of accounts, such as traditional and Roth Individual Retirement Accounts (IRAs), allow the interest on savings to accrue tax-deferred. With a Roth IRA, you pay income taxes on the deposits in the year you make them, and then you don't owe taxes on the principal or any earnings as long as you withdraw the money after reaching 59 and a half years old.
Another important consideration is foreign bank accounts. Per the Bank Secrecy Act, you must report certain foreign financial accounts, such as bank accounts, brokerage accounts, and mutual funds, to the Treasury Department annually. This is done by filing a Report of Foreign Bank and Financial Accounts (FBAR) on Financial Crimes Enforcement Network (FinCEN) Form 114. Failure to file an FBAR on time or at all may result in penalties.
In summary, it is crucial to understand how your savings account interest is taxed to stay compliant with IRS regulations and avoid penalties. While the bank will provide relevant tax forms, such as Form 1099-INT, you are ultimately responsible for accurately reporting and paying taxes on any interest earned on your savings accounts.
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Frequently asked questions
You do not have to pay taxes on the full balance in your bank account. However, the interest earned on your savings account is considered taxable income and must be reported to the IRS.
Any interest earned on a savings account is considered taxable income. This includes interest from traditional savings accounts, high-yield savings accounts, money market accounts, and certificates of deposit (CDs).
Banks are required to report taxable interest income to the IRS if it totals $10 or more over the year. You should receive a Form 1099-INT from your bank, which you can use to file your taxes. Even if you earn less than $10 in interest, you must still report and pay taxes on that interest.
The tax rate on your savings account interest depends on your federal income tax bracket. For the 2024 and 2025 tax years, the tax rates range from 10% to 37%.
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