Interest

2 min readLesson 2 of 4

Interest is income you receive from a debt instrument (such as a bond). When you buy a bond, you’re lending money to an issuer, and the issuer pays you interest in return. Unlike dividends, interest generally doesn’t receive favorable tax treatment. That said, the tax rules depend on who issued the bond, and some interest may be exempt from certain taxes. As a reminder, here’s the tax status of different types of bond issuers:

US Government debt

Subject to federal taxes

Exempt from state and local taxes

Mortgage-backed securities

Subject to federal, state, and local taxes

Municipal debt

Exempt from federal taxes

Subject to state and local taxes 100% tax-free if:

Resident

Territory bond

Corporate debt

Subject to federal, state, and local taxes

If taxes are due, the federal tax rate applied to interest is the investor’s federal marginal income tax bracket. Interest is taxed the same as non-qualified dividends (as discussed in the previous chapter). As of the tax year 2025, these are the income tax brackets for individuals and those filing jointly:

Rate

Individuals

Married filing jointly

10% $0 $0

12% $11,926 $23,851

22% $48,476 $96,951

24% $103,351 $206,701

32% $197,301 $394,601

35% $250,526 $501,051

37% $626,351 $751,601

Do not memorize these tax brackets; this chart is only for context.

Marginal tax bracket

The tax bracket applied to the last dollar earned

Example:An individual making $50,000 would pay a 10% tax on the first $11,925 earned, a 12% tax on additional income up to $48,475, and a 22% tax on the remaining income. Even though the investor pays multiple rates across different portions of income, their marginal tax bracket is 22%.

State taxes depend on the state, and you don’t need to know the specifics. Interest is reported annually on form 1099-INT.

Key points

Interest

Potentially taxable income from debt securities

Reported on tax form 1099-INT Tax rate equal to federal marginal income tax bracket (up to 37%)

US Government debt tax status

Subject to federal taxes

Exempt from state and local taxes

Municipal debt tax status

Exempt from federal taxes

Subject to state and local taxes 100% tax-free if:

Resident

Territory bond

Corporate debt tax status

Subject to federal, state, and local taxes

Mortgage-backed securities tax status

Subject to federal, state, and local taxes

Key Takeaway

Interest is income you receive from a debt instrument (such as a bond). When you buy a bond, you’re lending money to an issuer, and the issuer pays you interest in return.

Dividends

Capital gains