Interest and Dividends

Interest and Dividends - financial rewards that companies provide to their investors. The money received from interest and dividends is considered ordinary income and taxed at the individual rate during the tax year. 

 

1099-DIV and 1099-INT - includes information such as dividend amounts received and taxable interest. Ensures accurate income reporting and help maximize tax benefits.  

Taxable and Non-Taxable Interest

Determining taxable interest - Each bank where you have a savings account will send you a Form 1099-INT at the end of the year. This form details the total interest you earned from that account over the year. Most bank account interest is taxable and must be reported on your tax return.  

 

Identifying taxable Interest - Comes from sources like savings accounts, money market accounts, certificates of deposit, corporate bonds, and savings bonds. Interest earned from bank deposits and even non-cash gifts from banks can be considered taxable interest.  

 

Calculating taxable interest - Gather all of your 1099-INT forms from each bank, add up the interest amounts, and report the total on your tax return. NOTE: if the amount of interest you earned is greater than $1,500, you are required to report this on Schedule B and attach it to your Form 1040.  

 

Money Market accounts - a bit different than savings accounts. The income from these accounts are usually considered dividends, not interest. 

  

Certificates of Deposits (CDs) - The interest paid during the term is taxable Insurance dividends or when received or when it can be received without penalty. For insurance dividends or Treasury securities like bills, notes, and bonds, the interest is indeed taxable.  

 

Insurance dividends or Treasury securities (bills, notes, bonds) - The interest is taxable but Treasury securities are exempt from state and local taxes. 

 

Other taxable interest:  

  • Tax Refunds 

  • Interest to compensate for delayed payment  

  • Interest from the sale of a bond of annuity 

  • Interest from below-market loans 

 

Savings bonds: interest can get a bit tricky, especially with co-owners or community property rules. If you buy a bond in your name the name of another person as a co-owner, using only your own funds, you must report the interest. If you buy a bond in the name of another person, who is the sole owner of the bond, the person for whom you bought the bond must report the interest. If you and another person buy a bond as co-owners, each contributing part of the purchase price, both you and the other co-owner must report on the interest. If you are your spouse, who live in a community property state, buy a bond that is community property, you must both report the interest.  

Reporting Interest Income

Form 1099-OID - used to record a special type of interest income earned from the sale of bonds, notes, or CDs that were purchased for less than their full value at maturity. 

 

Client will need a professional tax preparer if: 

  • Adjustments are needed for any amounts listed on Form 1099-OID 

  • Earned income from an original issue discount but did not receive a Form 1099-OID 

Dividend Income


Dividend Income - taxpayers who invest in corporations through stock trading may receive distributions of property from those corporations. These distributions of property are known as dividends. Dividends can be paid in multiple ways, though taxpayers might receive most of their dividends in cash. The taxpayer may also receive distributions through interest in a partnership, and estate, as trust, a subchapter S-corp, or from and association that’s taxable as a corporation. 

 

Ordinary dividends - Corporate distributions paid out of the earnings and profits of a corporation. An dividend received on common or preferred stock is an ordinary dividend unless the paying corporation states otherwise. Example: you and I hold common stocks and preferred stocks in several US corps. Several of these tocks paid dividends during the tax year. The following January, you and I received Forms 1099-DIV listing these as ordinary dividends. 

 

Section 199A dividends - A subset of ordinary dividends is called Section 199A dividends, which are eligible for the qualified business income deduction. Section 199A dividends are dividends from domestic real estate investment trusts, also referred to as REITs and mutual funds that invest in domestic REITs. 

 

Qualified dividends - Must be paid by a US corporation domiciled in a US state or territory or a foreign corporation listed on a major US stock exchange. The taxpayer must own the stock paying the dividend for more than 60 days within a specific 121-day holding period. 

 

Capital gain distributions - Received when a mutual fund or real estate investment trust sells assets. The Capital Gain Distibution reported on the 1099-DIV represents the taxpayers pro-rate share of the proceeds from the sale of the asset. Capital gain distributions are considered long-term capital gains (no matter how long the shares have been owned) and are reported on Schedule D. Example: during the tax year the taxpayer owned shares in a mutual fund and a real estate investment trust, both of which made capital gain distributions that year. The following January, they received Form 1099-DIV listing these capital gain distributions. 

 

Non-dividend distributions - part of a distribution that is nontaxable because it is a return of the taxpayer's cost or another basis in stock or security. Brokers may keep track of these and other basis adjustments, however, taxpayers need to keep this information with their records to ensure correct adjustments to basis are made upon sale. 

 

Form 1099-DIV - taxpayers who held their securities in a brokerage account will receive Form 1099-DIV from their broker. Shareholders, or taxpayers who held stocks directly, will receive information on the dividend distributions from the corporations they invested in on a Form 1099-DIV. If the taxpayer did not receive a Form 1099-DIV for a dividend, they should contact the payer or their brother to get the needed forms. 

 

Form 1099-PATR - Taxpayers often use this form to report dividends associated with farms. The IRS can also issue a 1099-PATR to taxpayers if they had federal income tax withheld in connection with a cooperative. In some cases, this form will show the deduction and monies a cooperative can claim under the tax code. 

  • Box 1 - showed patronage dividends paid to the taxpayer during the year in cash, qualified written notices of allocation or other property. Patronage dividends are generally distributions of profit paid by cooperatives to their owners in the farming industry. 

Reporting Dividend Income

Dividends are taxed differently based on whether they are considered qualified or ordinary dividends under US tax law. 

 

Qualified Dividends tax rate: they are taxed at 0%, 15%, or 20% depending on taxpayers dividend income and filing status. Ordinary dividends are taxed at the same rate as the ordinary income tax rate. Qualified dividends are tax-free for the taxpayers in the 10% and portions of the 12% tax brackets. Taxpayers in the other part of the 12% tax bracket, along with those in the 22%, 24%, 32% tax brackets and portions of the 35% tax bracket, receive a 15% tax rate on their dividends. For the taxpayers whose income falls in the other portion of the 35% tax bracket, or those in the 37% tax bracket their dividends receive a 20% tax rate. So the tax rates for ordinary dividends are the same as the federal income tax rates. This means that you would your ordinary dividend income to your other income to calculate the tax rate, which depends on your tax bracket.

Early Withdraw Penalty

Withdrawal penalty - a charged imposed on an individual for accessing funds from an account that is restricted for a specified duration or where withdrawals are legally subject to penalties. Example: 

  • High-yield savings account 

  • Money market accounts 

  • Bank CDs 

 

Determining the penalty - Penalties vary by bank terms and policies. They are generally calculated as a certain amount of interest that depends on the term length of the CD account. 

 

Identifying the penalty amount - When you receive either a Form 1099-INT or Form 1099-OID, it will list the amount of the penalty in box 2 of 1099-INT or box 3 on Form 1099-OID. 

 

Reporting the penalty - penalties are tax deductible. You will report them as an adjustment to income on Schedule 1, Line 18.