Interest and Dividends

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Interest and Dividends

Interest that you receive on bank accounts, on loans that you have made to others, or from other sources is taxable. However, interest you receive on obligations of a state or one of its political subdivisions, the District of Columbia, or a United States possession or one of its political divisions, is usually tax-exempt for federal tax purposes. Generally, the interest rates paid on tax-exempt state and local obligations are lower than those paid on taxable bonds. However, keep in mind that you may find these lower rates attractive when you compare them with the after-tax yield from other taxable instruments. For example, if you are in the 35% tax bracket, you would need a 9.2% yield on a taxable bond to match a municipal bond with a 6.0% tax-exempt yield. The 2003 tax laws have changed the treatment of dividends. They are taxed at the same lower rate as capital gains, rather than as income.

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