How Much Interest Income Is Taxable and What’s Exempt?

How much interest income is taxable? All of it, at the federal level, unless a narrow exemption applies. Federal law defines gross income to include interest from any source, and it is taxed at your ordinary income tax rate, not the lower rates that apply to long-term capital gains or qualified dividends.1Office of the Law Revision Counsel. 26 U.S. Code 61 – Gross Income Defined There is no minimum dollar amount below which interest becomes tax-free. The main carve-outs are municipal bond interest and certain savings bonds used for education. Everything else belongs on your return.

What Counts as Taxable Interest

The everyday sources first: savings accounts, certificates of deposit, money market accounts, and interest-bearing checking accounts. The interest is fully taxable at your ordinary federal rate in the year it becomes available to you, even if you leave it in the account.2Internal Revenue Service. Topic No. 403, Interest Received

Several less obvious categories are also taxable:

The $10 Form Threshold Is Not a Tax Threshold

Banks and other financial institutions must send you a Form 1099-INT when they pay you $10 or more in interest during the year.8Internal Revenue Service. About Form 1099-INT, Interest Income That $10 is an administrative trigger for the payer’s paperwork obligation. It has nothing to do with what you owe. If you earned $3 in interest at one bank and $4 at another, you owe tax on the full $7 even though neither bank has to send you a form.

Keep a personal record of every interest-bearing account so small amounts don’t quietly disappear from your return. The IRS receives its own copy of every 1099-INT issued to you, so unreported interest is one of the easiest mismatches for automated matching to flag.

Interest That Is Actually Exempt

Municipal Bond Interest

Interest on bonds issued by state and local governments is generally excluded from federal gross income.9Office of the Law Revision Counsel. 26 U.S. Code 103 – Interest on State and Local Bonds These bonds usually fund public infrastructure such as roads, schools, and hospitals. The federal exemption makes them especially attractive to people in higher brackets.

Not every municipal bond qualifies cleanly. Interest on some private activity bonds, which primarily benefit private entities, can be subject to the Alternative Minimum Tax. Bonds issued for 501(c)(3) organizations, qualified housing bonds, and qualified veterans’ mortgage bonds stay AMT-free.10Office of the Law Revision Counsel. 26 U.S. Code 57 – Items of Tax Preference If you hold private activity bonds, check Box 9 of your Form 1099-INT, which specifically tracks AMT-relevant interest.

Savings Bonds Used for Higher Education

You can exclude interest on Series EE or Series I savings bonds from federal income if you use the proceeds to pay qualified higher education expenses at an eligible institution.11TreasuryDirect. Using Bonds for Higher Education To qualify, all of these have to be true:

  • The bonds were issued after 1989.
  • You were at least 24 years old when the bonds were issued.
  • The bonds are registered in your name, or jointly with your spouse.
  • You use the proceeds for tuition and fees, not room, board, or books.
  • Your modified adjusted gross income falls below the annual cutoff.

The income limits change every year. For the 2025 tax year, the exclusion phases out entirely at $114,500 for single filers and $179,250 for married couples filing jointly, with phase-outs beginning at $99,500 and $149,250 respectively.12Internal Revenue Service. Form 8815, Exclusion of Interest From Series EE and I U.S. Savings Bonds Married filing separately cannot take the exclusion at all. Claim it on Form 8815 with your return.

Treasury Interest at the State Level

Interest on U.S. Treasury securities and U.S. savings bonds is exempt from state and local income tax under federal law, even in states that otherwise tax all interest.3Office of the Law Revision Counsel. 31 USC 3124 – Exemption From Taxation Municipal bond interest is often exempt from the issuing state’s income tax as well, though rules vary by state. Most states with an income tax otherwise treat interest as ordinary income, at rates ranging from 0% in the roughly eight states with no individual income tax to over 13% in the highest-tax states.

An Extra 3.8% for Higher Earners

If your income is high enough, interest can pick up an additional 3.8% surtax under the Net Investment Income Tax. The surtax applies to the lesser of your net investment income or the amount by which your modified adjusted gross income exceeds the threshold for your filing status:13Internal Revenue Service. Topic No. 559, Net Investment Income Tax

  • Married filing jointly or qualifying surviving spouse: $250,000
  • Single or head of household: $200,000
  • Married filing separately: $125,000

These thresholds are not indexed for inflation. When you cross the applicable line, the 3.8% sits on top of your regular income tax rate on the portion of interest that falls above it.

How to Put Interest on Your Return

All taxable interest goes on line 2b of Form 1040. If your total taxable interest is $1,500 or less for the year, that line is all you need.14Internal Revenue Service. 1099-INT Interest Income Above $1,500, you also have to complete Schedule B, listing each payer and the amount received.15Internal Revenue Service. About Schedule B (Form 1040), Interest and Ordinary Dividends

Two boxes on your 1099-INT are worth knowing. Box 1 is the taxable interest figure you report. Box 2 shows any early withdrawal penalty from cashing a CD before maturity, and that penalty is deductible as an adjustment to income on Schedule 1 regardless of whether you itemize.16Internal Revenue Service. Instructions for Forms 1099-INT and 1099-OID If a 1099-INT never arrives or contains an error, use your bank statements to determine the correct number and file on time. Ask the institution for a corrected form, but don’t wait.

Children’s Interest and the Kiddie Tax

A child’s interest income gets its own treatment. For 2026, the first $1,350 of a child’s unearned income is effectively untaxed. The next $1,350 is taxed at the child’s own rate. Unearned income above $2,700 is taxed at the parent’s marginal rate under what is commonly called the kiddie tax.17Internal Revenue Service. Topic No. 553, Tax on a Child’s Investment and Other Unearned Income

If your child’s income is only interest and dividends and totals between $1,350 and $13,500 for 2026, you can elect to report it on your own return using Form 8814 rather than filing a separate return for the child.18Internal Revenue Service. Revenue Procedure 2025-32 The election is simpler, but it can raise the total tax because the first $1,350 that would have been untaxed on the child’s own return is taxed at 15% on yours. Run the numbers both ways.

A dependent whose unearned income exceeds $1,350 in 2026 is generally required to file a tax return.18Internal Revenue Service. Revenue Procedure 2025-32

Interest From Foreign Accounts

Interest earned in accounts outside the United States is taxable to U.S. citizens and residents on the same terms as domestic interest, and it goes on your return the same way. Foreign accounts carry separate reporting obligations that are not about the tax itself: an FBAR filing with FinCEN if the combined value of your foreign accounts exceeded $10,000 at any point during the year,19Internal Revenue Service. Report of Foreign Bank and Financial Accounts (FBAR) and Form 8938 with your tax return if your foreign financial assets exceed higher thresholds tied to filing status and residence.20Internal Revenue Service. Do I Need to File Form 8938, Statement of Specified Foreign Financial Assets Both can apply to the same accounts.

What Leaving Interest Off Costs You

Underreporting interest, whether deliberately or through carelessness, can trigger an accuracy-related penalty of 20% on the underpaid tax.21Office of the Law Revision Counsel. 26 USC 6662 – Imposition of Accuracy-Related Penalty on Underpayments The penalty attaches when the underpayment stems from negligence or a substantial understatement of income. Because the IRS gets its own copy of every 1099-INT, matching software catches these gaps quickly. Include every dollar, including small amounts too low to generate a form.