How Are Yields Taxed on a Certificate of Deposit (CD)? (2024)

Certificates of deposit (CDs) are popular safe haven investments for people looking for a steady return that isn’t tied to stock market performance. But taxes due on the yield from a CD can take a bite out of an investor’s returns since they’re taxed as interest income.

A CD is typically issued by a bank or a credit union and pays interest on deposited funds in return for leaving that money in the account for a specific term, ranging from a few months to several years (one, three, or five years are the most common).

CDs are considered low-risk investments, as they are deposit accounts, which are insured up to $250,000 by the Federal Deposit Insurance Corp. (FDIC). Even better, CDs often pay higher interest rates than other deposit accounts, such as checking, savings, or money market accounts.

Key Takeaways

  • Certificates of deposit (CDs) provide a savings opportunity not connected to stock market performance.
  • CDs are considered low-risk investments.
  • It’s difficult to avoid paying tax on interest earned with CDs.
  • CDs also often have penalties for early withdrawal.

How Are Yields Taxed on a Certificate of Deposit (CD)? (1)

Taxing CD Yield

However, there is a price to pay for that higher interest. Regardless of how the yield is paid out to the investor—it usually goes into another account or is reinvested back into the CD—the money earned is considered taxable on both state and federal levels. And that amount is taxed as interest income, not at the (usually) more favorable capital gains rate. For example, if an investor is in the 24% tax bracket and has earned $300 in CD interest for the year, then they owe $72 in taxes.

CD yields are taxed as interest income, not at the lower rate of capital gains.

The bank or credit union that issued the CD provides the owner of the account with a 1099-INT statement detailing how much interest was earned annually. On CDs that mature in the same year in which they were purchased, all credited interest is taxable for that year. For multiyear CDs, only the interest credited each year is taxable. For example, if a three-year CD pays accrued intereston the last day of each year, the account holder pays taxes only on the interest earned for each tax year.

There’s no getting around paying tax on the interest, unless the CD is purchased in a tax-advantaged account, such as an individual retirement account (IRA) or a 401(k) plan. In this case, the same rules of tax deferral that apply to an IRA are applied to the CD. Although interest is being earned, no 1099-INT is issued until distributions are taken from the account, presumably during retirement, when the investor is in a lower tax bracket.

In addition to earned interest, penalties for early withdrawals (that is, prior to the CD’s maturity) are included on Form 1099-INT. In the event of this type of penalty, CD holders can deduct the amount charged from earned interest to reduce their tax obligation.

A CD is considered a low-risk investment, but while it’s safe from loss, individuals need to be aware of how taxes may impact the total return that they realize on the CD.

How do I avoid being taxed on my certificate of deposit (CD) earnings?

You can avoid immediate tax charges by purchasing a certificate of deposit (CD) through a tax-advantaged account like an individual retirement account (IRA) or a 401(k). If you paid any fees in withdrawal penalties, you can also include those penalty amounts as a tax deduction.

How much tax will I have to pay for my CD?

Since CD interest earnings are taxed as income, the tax percentage depends on the tax bracket for your overall income.

Do I have to pay taxes on a CD account?

Yes, interest income earned on CDs is subject to state and federal income tax.

The Bottom Line

Interest earned on certificates of deposit are subject to federal and state income tax and are taxed as regular income. Unlike gains on stocks or bonds that have gained value, which are subject to capital gains taxes, certificates of deposits are not considered investment securities and gains are reported to the IRS on form 1099-INT as regular income.

How Are Yields Taxed on a Certificate of Deposit (CD)? (2024)

FAQs

How Are Yields Taxed on a Certificate of Deposit (CD)? ›

They are fixed-income investments issued by banks and pay interest at a stated rate for a specific time period. CD interest is taxed at the rates applicable to ordinary income, up to 37% at the top federal tax bracket rate for 2023.

How are CD yields taxed? ›

Interest earned on CDs is considered taxable income by the IRS, regardless of whether the money is received in cash or reinvested. Interest earned on CDs with terms longer than one year must be reported and taxed every year, even if the CD cannot be cashed in until maturity.

What is the biggest negative of putting your money in a CD? ›

Banks and credit unions often charge an early withdrawal penalty for taking funds from a CD ahead of its maturity date. This penalty can be a flat fee or a percentage of the interest earned. In some cases, it could even be all the interest earned, negating your efforts to use a CD for savings.

Can you lose money on a brokered CD if you hold it to maturity? ›

Can you lose money in a brokered CD? Market interest rates frequently fluctuate, which means that the market value of a CD fluctuates, too. If a CD is sold on the secondary market at a lower value than its face value, it will have lost money. But there are no losses if the CD is kept until maturity.

Is it better to buy CDs or treasury bills? ›

T-bills have a key advantage over CDs: They're exempt from state income taxes. The same is true with Treasury notes and Treasury bonds. If you live in a state with income taxes, and rates are similar for CDs and T-bills, then it makes sense to go with a T-bill.

Are CDs taxed as income or capital gains? ›

CD interest is taxed at the rates applicable to ordinary income, up to 37% at the top federal tax bracket rate for 2023. In addition, jurisdictions with their own income tax laws tax CD interest income at their own applicable state and local rates.

Do you pay taxes on certificates of deposit? ›

The interest you earn on a certificate of deposit (CD) or share certificate is taxable as regular income, unless you've opened a tax-advantaged account like an IRA CD.

Can you lose money in a high yield CD? ›

The risk of having a CD is very low. Unlike how the stock market or a Roth IRA can lose money, you typically cannot lose money in a CD. There is actually no risk the account owner incurs unless you withdraw money before the account reaches maturity.

Can I lose money in a CD? ›

Standard CDs are insured by the Federal Deposit Insurance Corp. (FDIC) for up to $250,000, so they cannot lose money. However, some CDs that are not FDIC-insured may carry greater risk, and there may be risks that come from rising inflation or interest rates.

How much does a $10,000 CD make in a year? ›

Earnings on a $10,000 CD Over Different Terms
Term LengthAverage APYInterest earned on $10,000 at maturity
1 year1.81%$181
2 years1.54%$310.37
3 years1.41%$428.99
4 years1.32%$538.55
1 more row
Apr 24, 2024

Why is CD not a good financial investment? ›

CD rates tend to lag behind rising inflation and drop more quickly than inflation on the way down. Because of that likelihood, investing in CDs carries the danger that your money will lose its purchasing power over time as your interest gains are overtaken by inflation.

What is the difference between a bank CD and a brokered CD? ›

Purchase process: A bank CD is a deposit product, where you begin earning interest immediately upon deposit. A brokered CD is an investment purchased in a securities account similar to the way a security is purchased. With the brokered CD, you don't start earning interest until settlement date of the trade.

What is the difference between a brokered CD and a CD? ›

Brokered CDs will still allow holders to earn higher interest rates in exchange for locking up their money, like a bank CD, and they are FDIC-insured. However, they may be subject to interest rate and market-to-market risk, as brokered CDs can be bought and sold on the secondary market, unlike bank CDs.

Which is safer, a CD or a treasury bill? ›

In every case where we've compared purchasing Treasuries vs. CDs, Treasuries have been the better option. An investor would be better off rolling over 6-month Treasuries yielding ~5.4% than buying a 5-year CD yielding 5.4% that becomes callable starting in 6 months.

Why would a person choose a government bond over a CD? ›

Both certificates of deposit (CDs) and bonds are considered safe-haven investments with modest returns and low risk. When interest rates are high, a CD may yield a better return than a bond. When interest rates are low, a bond may be the higher-paying investment.

Are CDs FDIC insured? ›

The short answer is yes. Like other bank accounts, CDs are federally insured at financial institutions that are members of a federal deposit insurance agency. If a member bank or credit union fails, you're guaranteed to receive your money back, up to $250,000, by the full faith and credit of the U.S. government.

How do I avoid tax on CD interest? ›

Open your CD as part of a retirement account

With a traditional IRA, investments are made on a pre-tax basis. So, your income taxes will be deferred until you tap into your IRA in retirement. If you opt for a Roth IRA, your money grows tax-free.

Do you pay taxes on a high yield savings account? ›

All of your high-yield savings account interest is taxable. Your financial institution will send you a Form 1099-INT once you earn more than $10 in interest.

What interest income is not taxable? ›

The most common sources of tax-exempt interest come from municipal bonds or income-producing assets inside of Roth retirement accounts.

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