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Interest Income and Taxes: What do they mean?

Interest Income and Taxes: What do they mean?

Any income that you earn during the year, may it be a big amount or small amount is not considered as tax-free. Hence, every income is subject to the same ordinary income tax rates as well as the rest of your income.

Obvious sources of interest income come in what you earned on that money you put aside in a bank or money market account while bonds, loans you make to others and even that minuscule amount your home lease security deposit brought in are what we call not-so-obvious sources.

Some Notable Exceptions 

On your federal return, interest on U.S Treasury bonds and savings bonds is taxable but at the state level, it’s usually tax-free. The same thing at the federal level, interest on municipal bonds is also tax-free and even in your investment in a bond that’s issued in the same state in which you reside.

From ordinary tax, the interest on these private activity bonds, also considered as municipal bonds is actually safe but for the alternative minimum tax, it’s already taxable. Since 1969, the AMT of the IRS  has been around to imposed an “extra” tax to wealthy taxpayers and prevent them from taking advantage of so many credits and deductions that they avoid paying any taxes at all

If you earn more than $71,700 well the AMT isn’t something you’d have to worry about as a single taxpayer in 2019. An increase in the threshold of $111,700 is given for married taxpayers filing jointly but a drop to $55,850 if you are married taxpayers filing separately.

Deferring Interest Income

Assuming you use the cash method of accounting when interest income is actually paid to you, it becomes taxable. This is what the vast majority of taxpayers do. There are times that it might accrue, for instance, the amount increases in 2017 but is not credited to you until 2018 for some reason, then on your 2018 return, you need to report it.

Deferring the interest income to a future tax year comes in some ways. You can have time deposit wherein some banks and credit unions will pay you the interest at the maturity of a certificate of deposit but this typically matures under one year or you can also have deferred reporting interest until the U.S. savings bond matures or is redeemed. 

Form 1099-INT and Interest Income

Form 1099-INT is a copy of which is then sent to you and to the IRS reporting your interest income in banks or other financial institutions. This will be given to you from each institution that paid you $10 or more in interest during the year. Your taxable interest is reported in 1099-INT forms, so just look Check Box 1 portion of the form you received.

In Box 3 of Form 1099-INT, interest from U.S. savings bonds and treasury notes is reported. In Box 8 the municipal bond interest and in Box 9, the portion of the municipal bond interest that’s generated from private activity bonds is reported.

Reporting Your Interest Income 

As to where you can enter all this on your tax return, reporting interest income may be done in the following places: 

  • On-Line 8a of Form 1040-A or line 2 of Form 1040-EZ reflects your taxable interest.
  • On-Line 8b of Form 1040 or Line 8b of Form 1040-A, tax-exempt municipal bond interest is reported.
  • On-Line 12 of Form 6251, private activity bond interest is reported as an adjustment for calculating the alternative minimum tax.

Using Schedule B

In order to tally up interest and dividend income, Schedule B, a supplemental tax form can be used if you receive it from multiple sources. If you have over $1,500 in interest and / or dividends, using and filing Schedule B is mandatory. In case you’re not required to file it, you can still use it, to sum up, your interest and dividend income so you can report them on your Form 1040.

This article wouldn’t be able to explore all the rules involved in interest income and taxes. If you don’t get some help, you might end up making more mistakes and wasting money instead of the other way around. You may want to consider consulting a tax professional who can guide you from preparing your receipts and forms to submitting your tax returns to the IRS. 

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