For years now, savings accounts have paid an abysmal rate of interest. But in recent months, we’ve seen accounts paying far more: Currently, the range for high-yield online savings accounts is between about 1.6% and 2.15%, compared to far less than 1% last year. ( See the highest rates you may get on a savings account here .)
That said, there’s one thing to remember here: “Interest you earn from a high-yield savings account is generally taxable. You won’t be taxed on your contributions to your savings account, just the interest you earn from keeping your money there,” says Alana Benson, investing spokesperson for NerdWallet. So while you might have earned very little on your savings last year, for some of you, this year will be a different story. But don’t worry too much: “You’ll never pay more in taxes than the interest you earn,” says certified financial planner Jim Evans, co-founder and vice president of TTG Financial.
What’s more, higher rates on your savings account are very good news, even if there’s a tax bill associated with them. “We could even say any rate on your savings is good news as many banks had been paying essentially zero interest on savings for the past few years,” says Evans. ( See the highest rates you may get on a savings account here .)
As for how much your interest income will cost you depends on your marginal tax rate. If you already pay taxes on your other income, the interest you earn on your savings will be taxed at your highest marginal rate. “If you’re in the 22% tax bracket, you’ll pay 22% on your interest. Despite the tax burden, the benefit of receiving interest typically outweighs the small tax bump,” says Benson.
A couple earning $150,000 with a top marginal rate of 22% who splits $50,000 between a money market and a savings account might expect to earn about $550 to $600 of interest on their savings. “At 22%, this will increase their tax bill by [roughly] $121 to $132 but their earnings exceeded their tax bill, so overall it’s good news,” says Evans.
How will you know if you owe the IRS for your savings account?
“Your bank may send you a 1099-INT tax form if you earned more than $10 in interest during the tax year,” says Benson. And this is something you’ll have to include on your tax return.
But if you get a 1099-INT from the IRS in January, don’t be alarmed. “As banks offer higher interest rates to their customers who have savings accounts or money market accounts, this can mean a higher tax bill. Over the last several years, this has not added up to a lot of income for most folks, since interest rates for savings accounts have been very low, but for a $100,000 account, this would mean an additional $2,000 of income, which for a single person with a taxable income of $90,000 would add an additional $480 to their tax bill,” says certified financial planner Jud Mallini at Together Planning.
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