Socking cash away in an interest-bearing bank account is a safe way to get a guaranteed return on your savings, but taxes can erode the interest payments you receive. Interest income is generally taxable by the Internal Revenue Service, so you usually have to report it on your tax return. You might, however, qualify to exclude reporting certain interest income depending on the details of your tax situation.
Interest Income Basics
Interest you receive is added to your wages and other sources of ordinary income when you file your tax return. Unlike capital gains on investments, which are only taxable when you actually sell property or stocks you hold for a profit, interest is taxable income in the year that you receive it or that it is credited to your account. Interest is taxed at your normal income tax rate, which is higher than the rate that applies to capital gains.
Tax Filing Requirements
You don't have to report bank interest to the IRS if you aren't required to file a tax return in the first place. For the 2012 tax year, if you make $9,750 or less as a single taxpayer or $19,500 or less as a married person filing a joint return, you aren't required to file. You can, however, choose to file a return even if you don’t have to file. It is usually a good idea to file a return if you had any income from a job or if you qualify for tax breaks because you might be due a tax refund.
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Tax Deferred Accounts
You don't have to pay taxes on interest credited to accounts that qualify for tax deferral. Tax deferred accounts delay taxes on all investment gains such as interest and capital gains until you tap into your account. Examples of accounts with tax deferral include 401(k) plans, 403(b)s, annuities, thrift savings plans and individual retirement accounts.
Reporting Interest Income
When you receive more than $10 in interest income, your bank should provide you with Form 1099-INT documenting the amount of interest you made. You have to report your interest income on line 8a of Form 1040 when you file your tax return. If you make more than $1,500 in interest in a year, you also have to fill out Schedule B and list all the different companies that paid taxable interest to you.
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