The simplest way to reduce tax on savings interest is to keep your total interest income below the threshold where you have to report it
The IRS requires you to report interest income on your tax return only when it reaches a certain amount. For the 2024 tax year, that threshold is $5 in interest or more. If your savings account earned less than $5 in interest during the year, you do not report it and you owe no federal tax on it.
This matters because it means the first few dollars of interest you earn are tax-free. If you have $500 in a savings account earning 4% annually, you would earn about $20 in interest — but only the amount above $5 is taxable. The other $15 is not reported.
However, if you have larger savings or multiple accounts, your interest will likely exceed this threshold. When it does, you have other options to reduce what you owe.
Key Takeaways
- Interest under $5 per year does not have to be reported to the IRS, so small savings accounts generate no tax burden.
- High-yield savings accounts earn more interest than traditional savings accounts, but that interest is still fully taxable at your regular income tax rate.
- Keeping savings in a traditional IRA or Roth IRA shields the interest from tax, though you face withdrawal limits and penalties before age 59½.
- Tax-loss harvesting in a brokerage account — selling investments at a loss to offset gains — can reduce your overall tax bill if you also own stocks or bonds.
- Your tax bracket determines how much of each dollar of interest you actually keep, so understanding your bracket helps you decide where to save.
How your tax bracket affects what you pay on interest
Interest income is taxed as ordinary income, which means it is taxed at the same rate as your wages or salary. The rate depends on your total income for the year and your filing status.
If you earn $35,000 as a single filer in 2024, you are in the 12% tax bracket. That means each dollar of interest you earn is taxed at 12%. If you earn $100,000, you might be in the 22% bracket, so each dollar of interest costs you 22 cents in federal tax.
This is why the same $1,000 in interest costs different people different amounts. A retiree on a fixed income might owe 10% tax on it. A high earner might owe 35% or more. Knowing your bracket helps you decide whether a high-yield savings account makes sense for you, or whether sheltering money in a retirement account is worth the trade-off.
Using a Roth IRA to earn interest tax-free
A Roth IRA is a retirement account where interest, dividends, and investment gains grow without being taxed. When you withdraw the money in retirement, you pay no tax on any of it — not the original deposit, not the interest it earned.
The catch is that you can only deposit a limited amount each year. For 2024, the limit is $7,000 per year if you are under 50, and $8,000 if you are 50 or older. You also cannot withdraw the interest before age 59½ without paying a 10% penalty, though you can withdraw your original deposits anytime without penalty.
If you have money you will not need for at least five years, a Roth IRA in a high-yield savings account or money market fund can be a powerful way to earn interest completely tax-free. The interest compounds year after year without any tax bill.
Using a traditional IRA to defer taxes on interest
A traditional IRA works differently. The interest grows without being taxed while the money is in the account, but you pay tax on it when you withdraw it in retirement. This is called tax deferral — you are not avoiding the tax, just postponing it.
This can still save you money if you expect to be in a lower tax bracket in retirement than you are now. If you earn $80,000 today and expect to live on $40,000 in retirement, your interest will be taxed at a lower rate when you withdraw it.
Like a Roth IRA, a traditional IRA has annual contribution limits ($7,000 for those under 50 in 2024) and penalties for early withdrawal. The money must stay in the account until age 59½ to avoid the 10% penalty.
Spreading interest across multiple accounts to stay under reporting thresholds
If you have a large amount of savings, you might think about splitting it across multiple banks. This does not reduce your tax bill — the IRS taxes all your interest income combined, regardless of how many accounts you have.
However, spreading money across accounts does protect your deposits. The FDIC insurance limit is $250,000 per depositor per bank. If you have $500,000 in savings, keeping $250,000 at Bank A and $250,000 at Bank B means both amounts are fully insured if a bank fails. This is a safety reason to use multiple banks, not a tax reason.
For tax purposes, report all your interest on a single tax return, no matter how many accounts earned it.
Understanding tax-loss harvesting if you own investments
If you also own stocks, bonds, or mutual funds in a regular brokerage account, you can use tax-loss harvesting to offset some of your interest income. This means selling an investment that has lost value to create a loss on paper, which you can use to reduce your taxable gains and income.
For example, if you earned $2,000 in interest and also have a stock that lost $1,500 in value, you can sell the stock and use that loss to reduce your taxable interest to $500. You would then owe tax on only $500 instead of $2,000.
This strategy works best if you have significant investment losses or if your interest income is large. It also requires you to own investments, which carry their own risks. Talk to a tax professional before using this approach, because the rules around which losses you can use and when are detailed.
Comparing savings options by after-tax return
When you are deciding where to keep your money, it helps to compare accounts by what you actually keep after taxes, not just the interest rate advertised.
A regular savings account at 0.01% interest costs you almost nothing in taxes because you earn almost no interest. A high-yield savings account at 4.5% interest earns you much more, but if you are in the 24% tax bracket, you keep only 3.42% after taxes. A money market account at 4.8% might keep you 3.65% after taxes.
A Roth IRA earning 4.5% keeps you the full 4.5% because none of it is taxed. This is why retirement accounts are so powerful for savers — the tax savings compound over time.
Frequently Asked Questions
Do I have to report interest if I earned less than $5?
No. The IRS does not require you to report interest income below $5 for the year. However, if you earned $5 or more, you must report all of it, not just the amount above $5.
Is interest from a savings account taxed differently than interest from a CD?
No. Both are taxed as ordinary income at your regular tax rate. The type of account does not matter — only the total amount of interest you earned matters for tax purposes.
Can I avoid taxes by keeping my savings under a certain amount?
No. The tax is based on how much interest you earn, not how much money you have saved. A large deposit earning low interest might generate less tax than a small deposit earning high interest.
What happens if I withdraw money from a Roth IRA before retirement?
You can withdraw your original deposits anytime without penalty or tax. If you withdraw the interest earned before age 59½, you pay a 10% penalty plus income tax on that amount. There are some exceptions for first-time home purchases and medical hardship.
Should I move all my savings to a Roth IRA to avoid taxes?
Only if you have money you will not need for several years. Roth IRAs have annual contribution limits ($7,000 in 2024) and early withdrawal penalties. For money you need soon, a regular savings account is more practical, even though the interest is taxed.