With the tax season upon us, now is the time to take stock of all taxable income. While that may seem like a simple and straightforward task, it’s not always so clear-cut, even if you’re…
With the tax season upon us, now is the time to take stock of all taxable income. While that may seem like a simple and straightforward task, it’s not always so clear-cut, even if you’re a salaried employee. For instance, if you receive money from life insurance proceeds, a gift or an inheritance, rather than work-related wages, calculating your taxable income can become more complex. So if you’re wondering what types of income are and aren’t taxable, consider this your crash course before tax time.
The list of what type of revenue is taxable, according to the IRS, is long, but a good way to understand what you should report and what you don’t need to is to think about earned income versus unearned income. If you earned it, report it as taxable income. If you didn’t earn the income, you probably don’t have to report it.
Still, it’s never a bad idea — if you’re unsure about your taxable income — to hire a tax professional to help guide you. While it’s common knowledge that you must report wages, salaries, tips and commissions, if you have a side gig or you’re a freelance contractor, you must also report earnings from those side hustles as taxable income.
If you receive long-term disability benefits before you’re retired, that’s also considered taxable income. Union strike benefits are also taxable, as are jury duty fees. Unemployment benefits are also considered taxable income. So are royalties and license payments, interest or dividends from investments and severance pay from a previous place of employment. Even money you win from a game show is considered taxable income.
Determining what’s taxable — and what isn’t — can get confusing. For instance, Josh Zimmelman, owner of Westwood Tax & Consulting LLC with offices in Manhattan and Long Island, points out how court settlements are sometimes considered taxable income and sometimes aren’t. “If you received damages from a court case for physical injury or emotional distress, that’s not taxable. But if the court award was for lost pay or business damages, then it is taxable,” he says.
Here are some of the types of income categories that you must pay taxes on:
As a general rule, among what you don’t have to report includes gifts and money you inherit, child support payments, welfare benefits, damage awards for physical injury or illness, cash rebates from a dealer or manufacturer for an item you purchase and reimbursements for qualified adoption expenses. Still, there are some exceptions. For instance, while you won’t have to pay an inheritance tax on the federal level, six states — Iowa, Kentucky, Maryland, New Jersey, Nebraska and Pennsylvania — currently collect an inheritance tax. Inheriting property versus money can also sometimes involve paying taxes.
Another income category that isn’t taxable: financial aid. Why? “Because you’re expected to pay that money back,” Zimmelman says. Now, there is one possible exception, Zimmelman adds: “If you end up not paying back the full loan — due to a loan forgiveness program — you might have to pay taxes on the amount you didn’t pay.” However, it is worth noting that scholarships and grants are taxable.
Here are some of the types of income categories that are not taxed:
— Gifts and inheritances.
— Life insurance proceeds.
— Life insurance reimbursements for medical expenses not previously deducted.
— Certain welfare payments.
— Compensatory damages for personal physical injury or illness.
— Workers’ compensation.
Deductions and Taxable Income
It’s also worth noting that deductions can reduce your taxable income. You can choose the standard deduction, which you receive depending on factors such as your filing status or age. For instance, if you’re single, for the year 2018, you’ll receive a $12,000 deduction. If you’re married and filing jointly, you’ll receive a $24,000 deduction. Or you can itemize your deductions, such as medical expenses, and that may lower your taxable income.
How to Lower Your Taxable Income (Without Decreasing Your Refund)
Using a tax professional or at least tax preparation software is a smart idea. Sometimes people don’t report income because they didn’t receive a 1099 or another tax reporting document from the payer, says Steven Weil, president, enrolled agent and tax manager at RMS Accounting in Fort Lauderdale, Florida. “Each person is responsible for keeping track of and reporting the income they receive regardless of whether they receive a tax reporting document from the payer,” Weil says. “Remember, just because you did not receive a 1099 or other document does not mean the income was not reported to the IRS. Even if it was not reported, that does not mean it won’t show up should you be audited.”