How Are CDs Taxed?

How Do CDs Work?

A CD is a type of time-limited savings account that pays a fixed rate of interest that's typically higher than the interest rate on a regular savings account. CDs are available at most banks and credit unions. At credit unions, they're often known as share certificates.

Rates and terms on CDs vary from one financial institution to another, but here are a few common attributes of CD accounts:

Preset Terms

When you open a CD, you choose a preset time period for the account to remain open. Typical terms offered include:

• Three months
• Six months
• Nine months
• 12 months
• 18 months
• Three years
• Five years

High Interest Rates

Compared to regular savings accounts, CDs typically pay higher interest rates. Rates may be comparable to high-interest savings or money market accounts.

Early Withdrawal Penalties

If you close a CD before its term is up, you may forfeit some of the interest on your account.

Low Risk

If you open a CD at an FDIC-insured bank or NCUA-backed credit union, your money is insured up to $250,000. Your account value doesn't fluctuate, as it might with stocks or other investments. In fact, you typically agree to a fixed interest rate and time period with a CD, which means you know upfront exactly how much interest you'll earn.

Modest Returns

In exchange for the relative safety of CDs, you'll receive a modest rate of return. CDs won't help you get rich quick, but they can provide stable, predictable returns that are counterbalancing in a volatile market.

How Are CDs Taxed?

Interest income is taxed at the same rate as your ordinary income. For example, if your salary puts you in the 22% tax bracket, 22% of your CD yield will go toward your federal income taxes.

Interest and dividends are taxed differently than profits from the sale of stocks, mutual funds or exchange-traded funds. If you bought a stock for $100 and sold it for $250, you would pay capital gains tax on your $150 in profit. Capital gains taxes are generally lower than regular income taxes: If your taxable income as a single taxpayer was between $41,675 and $459,750 in 2022, for example, your capital gains tax rate would be 15%.

How to Report CD Income on Your Tax Return

Your bank or credit union will issue a 1099-INT statement showing how much interest you earned on your CD account for the year. Include the interest from your 1099-INT on your tax return—Line 2b on your Form 1040. The amount you report on Line 2b should include interest earned on all CDs and other bank accounts you have.

If your CD matures in the same year it's opened, all of your interest will appear on your 1099-INT for the year. Interest on multiyear CDs is typically reported, in increments, at the end of each year.

How to Avoid Being Taxed on CD Earnings

Interest on CDs and share certificates is generally taxable unless you open an IRA CD, a special tax-advantaged CD account you use to save for retirement. Essentially, an IRA CD is a CD that is held in a retirement account. You can choose between traditional and Roth IRA CDs.

The money you contribute to a traditional IRA CD is tax-deductible in the year you contribute it, but you'll pay income taxes on the money when you withdraw it. Contributions to a Roth IRA CD are not deductible, but earnings and withdrawals are tax-free.

If you choose to put your money into an IRA CD, be aware that you'll need to roll your CD into a new CD when its term expires. If you fail to roll the money into a new IRA CD, it could be considered an early withdrawal, which is subject to income tax and a 10% early withdrawal penalty.

The Bottom Line

Paying taxes on your CD yield is simple and straightforward; the main trick is remembering to look for your 1099-INT form in late January and include interest information from it on your tax return. If you're concerned about tax liability on your savings and investments, you might want to meet with a financial advisor to learn about your options—or with a tax advisor to explore ways to lower your tax bill overall.