Here's Why You Might Be in for an Unpleasant Tax Surprise in 2023

Prepare now so you're not thrown later.

The benefit of keeping your money in a savings account instead of a jar next to your bed is getting to earn interest on it (not to mention minimizing your risk of losing it). For many years, banks were paying such little interest it was almost not even worth calculating. But last year, interest rates for savings accounts and certificates of deposit (CDs) started to soar. And while that's a good thing in theory, it could result in a tax headache this year.

Don't be shocked if your tax liability is higher

The IRS gets a piece of all of the income you earn. Make money at a salaried job or side hustle? The IRS gets a cut. Earn money on investments in a brokerage account? The IRS will charge you capital gains tax on your profits.

Similarly, any interest you earn in a savings account or CD is considered income. And because a lot of people earned more interest last year than they did in years back, a lot of people will owe the IRS more money on that income for 2022. 

As such, don't be shocked if you notice a higher tax liability due to having made more money on your savings. You should also know that interest you earn in a savings account or from a CD is taxed as ordinary income -- meaning, at the same rate as your regular paycheck. So that's another reason why a higher amount of interest could mean a higher tax bill than you're used to.

Should you avoid keeping money in savings because of the tax implications?

Any money you have on hand for emergencies or near-term goals, like buying a home or taking a dream vacation, should stay in your savings account (or, in some cases, a CD). That way, you can earn interest on it, and you may not be as tempted to dip into it for less important things. 

The fact that you have to pay taxes on interest income may be annoying. But that's not a good reason to avoid keeping your money in a savings account or CD. 

Think about it this way. If you earn $120,000 a year, you're going to pay more taxes than someone earning $20,000. But is the fact that your salary is $100,000 higher a bad thing? No.

Similarly, it's a good thing to earn more interest on your savings than you did in the past. After all, that's basically like getting free money for taking on no risk (assuming you put your cash in an FDIC-insured bank and your deposit doesn't exceed $250,000). But it's also important to understand the tax implications. 

You may end up with a smaller tax refund this year due to having earned more money on your savings. You may even end up having to write the IRS a small check, depending on your complete tax picture. But don't pull your money out of the bank because of that.