What to Know About Paying Taxes on CD Interest
As a responsible taxpayer, it’s important to be aware of the tax implications of your investments, including those related to Certificate of Deposits (CDs). CDs are popular choices for people looking for a low-risk investment option that generates interest. However, you may not be aware that the interest earned on CDs is subject to taxes. Here, we will take a closer look at how taxes work for CD interest and what you should know before investing.
1. Taxable Interest Income
The interest earned on a CD is considered taxable income by the Internal Revenue Service (IRS) and must be reported on your federal income tax return. The same rule applies even if you do not receive the interest – for example, if it is reinvested or accrued but not yet paid.
2. Federal and State Taxes
CD interest is subject to federal income tax as well as state and local taxes in some cases. Tax rates can vary depending on where you live and your personal tax rate, so it’s essential to consult with a tax professional to understand your specific situation.
3. Form 1099-INT
Financial institutions are required to issue a Form 1099-INT to both you and the IRS if they pay you $10 or more in interest during a given year. This form reports the total amount of interest earned on your CD (amongst other things) and must be included in your tax return.
4. Rate Tiers and Maturity Dates Impact Your Taxes
The taxable amount of CD interest depends on the rate tier associated with your investment which can be affected by how much money you invest and how long you choose to keep that investment. The maturity date of your CD also influences the amount of accumulated interest that will need to be reported in different tax years.
5. Tax-Deferred CDs vs. Traditional CDs
Some investors opt for tax-deferred CDs, like those held in Individual Retirement Accounts (IRAs). The interest earned in these accounts is not immediately taxed; instead, it accumulates tax-deferred until you start withdrawing from the account. At that time, the withdrawals become subject to taxes as income. This can be beneficial if you expect to be in a lower tax bracket during your retirement years.
In summary, it’s crucial to understand the tax implications of your investments, including CD interest. Be prepared to report and pay taxes on the interest earned from your CDs and consult with a tax professional to clarify your specific situation. By being aware of these factors, you can make more informed decisions about your financial future.