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Author: Lokicious Big gold star, 5000 posts Feste Award Nominee! Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: of 35357  
Subject: Re: Interest tax rate Date: 7/7/2006 7:11 PM
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My question is what is the tax rate on interest generated from a bond? (not a muni) My concern is it taxed at ordinary income? Thanks.

In a taxable account, all fixed-income/bond investments, other than munis, are taxed at your marginal federal tax rate (tax bracket). That would include CDs, Money Markets, Treasuries and TIPS, Mortgage Securities, Corporate Bonds, etc.

Treasuries and TIPS, and in some states, some Government Agency bonds are exempt from state and local income taxes.

US Savings Bonds (EE- and I-bonds) are not taxed until you cash them in (or they mature), unless you choose otherwise, at which point they are taxed at your marginal rate at that time. This allows for compounding before paying taxes and, if you are in a lower bracket when you cash them in (e.g., after retirement), you would end up paying less in taxes than if taxed annually. Unfortunately, the yields on US Savings Bonds have become so uncompetitive, this tax advantage no longer is sufficient to make this a good option, as it was a few years ago.

Incidentally, with TIPS the inflation adjustment is taxed every year at your marginal rate. As far as we know (or probably the IRS knows), if there is deflation, you don't get to subtract that from your taxes (but our opportunity to find out this spring, after CPI-U was way down from the fall gas surge, got undermined by the new gas surge).
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