What Is Taxable Income?

Updated Tax Year 2013

OVERVIEW
While taxable income can include wages, salaries, bonuses, commissions and tips,
it may not be as easy to define as you might think.

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This question isnt as easy to answer as you might think. Most people realize that
taxable income includes wages, salaries, bonuses, commissions and tips. But as
you can see from this list, "income" means a lot more than that to the IRS.
Taxable income includes:

Fees for acting as an executor, trustee or estate administrator.

Fees for jury duty.

Fees for serving on a board of directors.

Security deposits you received from a tenant.

Constructively received income: This is income that was available to you, even if
it wasn't in your possession. Let's say you received a check in late December
but didn't deposit or cash it until January of the next year. You still must include

the check in your taxable income for the year that you received the check, not
the year that you deposited it.

Assignment of income: If you've authorized someone to receive income on your

behalf, it's includable in your income as soon as your agent receives it.

Alimony you receive from your ex-spouse.

Cancelled debts: If you settled a credit card bill for less than the total balance
you owe, for example, the credit issuer reports the amount that was forgiven to
the IRS, and you must include it in your taxable income. (There are exceptions
in cases of bankruptcy or insolvency. See below).

Awards, prizes and contest winnings.

Back pay, including amounts you received as the result of a successful suit for
age discrimination.

Severance pay.

Strike benefits.

Unemployment benefits.

Capital gains. (Theres an important exception when it comes to the sale of your
primary residence. See below.)

Freelance income.

Interest and dividends.

Your profit on a sale, even if the sale was to a friend or relative.

Royalties and license receipts.

The value of bartered, non-cash services. If youre a lawyer and a plumber

installs your kitchen sink in exchange for your drafting his will, each of you must
declare the value of the others services as income.

Gambling, lottery, raffle and sweepstakes winnings. (Does that mean you can
deduct gambling losses? Yes, as a miscellaneous itemized deduction. But you

can't deduct a loss greater than the amount you won. For example, if you lose
$2,000 one night, and win $700 the following night, $700 is the most you can
deduct on your return.)

Money you embezzled. That's right! The amount you embezzle is taxable in the
year you steal it. If convicted, you'll owe taxes (plus accrued interest for nonpayment) on the amount you stole.

Now the good news. You don't owe Uncle Sam income taxes on:

Life insurance proceeds. If you're the beneficiary, the insurance policy death
benefit isn't taxable to you.

Child support payments.

Accident and personal injury awards.

Workers compensation payments.

Disability benefits, if you paid the premiums for the policy. (If your employer paid
for the policy, the disability payments are taxable.)

Interest income on municipal bonds issued in your state. (By contrast, interest
on U.S. government bonds is federally taxable even though it isn't subject to
state income taxes.)

Cancelled debts that were discharged because of your bankruptcy or

insolvency, for which you have received a Form 1099-C.

Scholarships and fellowship grants.

Foster care payments.

Social Security benefits, depending on your income.

The capital gain on the sale of your primary residence, which is a house youve
owned and lived in for two of the five years prior to the sale. This gain is taxexempt, except to the extent that it exceeds $250,000 if you're a single taxpayer

or $500,000 if you're married filing jointly. (There are restrictions, however, if

your home has been used as a rental property or a home office.)

Gifts. Money you received as a present isnt taxable but you do owe taxes on
any income it produces. For example, if you receive bonds as a gift, you must
report any interest the bonds earned after you received them.

Inherited assets, except to the extent that they would have been taxable income
to the person from whom you inherited them. If you inherit an Individual
Retirement Account, for example, the account balance is tax-deferred, but you
owe taxes on the distributions you take from that account in the year you take
them just as the original IRA owner would have done.

Money that you rolled from one retirement account to another in a trustee-totrustee transfer.

Your federal income tax refund. The money you got back from Uncle Sam is not
taxable as income.

If youre in doubt about whether or not some of your income is taxable, dont guess!
Take the time to double-check. Youll find more information in IRS Publication 525,
Taxable and Nontaxable Income."

What is taxable income?

by Elizabeth Rosen, Contributor

January 23, 2012
76

Taxable income, generally speaking, is the gross income of an individual or

corporation, less any allowable tax deductions. Your taxable income is, in other
words, the amount of your income that is subject to income tax.
In the USA, what qualifies as taxable income is defined in the Internal Revenue
Code Section 63. Gross income is defined in Section 61 of the Internal
Revenue Code.
Taxable income can encompass more than just your annual salary. Taxable
income can include profits from stocks or real estate sales, winnings from the
lottery, betting the dogs or horses, and winnings from any casino (domestic or
abroad). Even the cash value of bartered items is considered taxable income.
Income that may be part of your gross income but is not identified as taxable
income would include child support, proceeds from life insurance policies,
inheritances, workers compensation payments, welfare benefits, compensation
awarded as a result of physical injury, education scholarships or grants, and
income paid to your retirement account (either a 401k or IRA, up to a certain
amount).

From your gross income, allowable tax deductions as defined in Section 63

Subsection (a) covers itemized deductions; and subsection (b) covers standard
deductions. Note that you cannot reduce your taxable income with standard
deductions if you itemize your deductions.
Itemized deductions that can minimize your taxable income include medical
expenses and health insurance, as well as the cost of prescriptions, and the
mileage to/from your doctors appointments. Itemized deductions also include
mortgage interest paid on a home loan, personal losses due to theft or accident,
state and local income or sales taxes, property taxes (on real estate as well as
personal property), charitable contributions to churches and other qualified
nonprofit organizations, gambling losses (provided they are offset by gambling
winnings), and home office expenses.
The standard deduction to reduce your taxable income will be based on your
filing status and changes from year to year, depending on inflation. There is a
higher standard deduction for individuals who are blind, and those aged 65 or
older. In addition to the standard deduction, you may claim deductions for real
estate taxes, (net) loss sustained as a result of a Federally Declared Disaster,
and taxes on federally-sponsored programs (which may include energy-efficient
vehicle purchases, appliances, etc.).
In summary, taxable income is that portion of your gross income which is subject
to taxation by the governing authority, less any allowable itemized or
standardized deductions.
Types of Income Subject to Tax
The following categories represent types of income, which may be subject to
Federal/State income tax, as set forth by the IRS:

Wages and salaries

Tip income

Interest received

Dividends

Business income

Capital gains and losses

Pensions and annuities

Lump-sum distributions

Rollovers from retirement plans

Rental income and expenses

Farming and fishing income

Earning for Clergy

Unemployment compensation

Gambling income and losses

Bartering income

Scholarship and Fellowship grants

Social Security and equivalent Railroad Retirement Benefits

401(k) plans

Passive activities (losses and credits)

Stock options

Exchange of Policyholder Interest for stock

Canceled debt

Alimony and child support

For a complete list of the types of income subject to tax, see the IRS Publication
525 (Taxable and Nontaxable Income).
Income That Is Taxable Wages, Salaries, and Other Job-Related
Earnings This may include advance commissions, back pays, bonuses,
awards, cash gifts from your employer, fringe benefits, unemployment
compensation, and childcare services.
Taxable Interest Income According to the IRS, taxable interest is defined as
any interest you receive that is credited to your account and can be withdrawn.

This may include interest from bank accounts, investment accounts, time
deposits, loans you made to others, savings bonds, and debt instruments sold at
a discount.
Miscellaneous Income This may include income from bartering, canceled
debts, life insurance proceeds, survivor benefits, recoveries, welfare, and other
public assistance benefits. Other types of taxable income may include:
investment dividends income, interest on bonds, alimony, unemployment
benefits, Social Security benefits, retirement plan distributions, jury pay, election
worker pay, rental income, royalties, notary fees, and certain scholarships,
fellowships, and grants.
Income That Is NOT Taxable
Types of income that are not subject to Federal tax may include the following:

Gifts and inheritances

Life insurance proceeds

Child support

Certain Veterans benefits

Insurance reimbursements for medical expenses not previously deducted

Some welfare payments

Compensatory damages for personal physical injury or illness

Workers compensation

Some qualified pension distributions for Public Safety Officers

For more information, please see IRS Publication 525, Taxable and Nontaxable
Income.
Self-Employment Income
Self-employment tax (also called SE tax) is a Social Security and Medicare tax
aimed mainly at individuals who are self-employed. The SE tax payments you

make go towards your coverage under the federal Social Security system. Social
Security coverage essentially provides retirement benefits, disability benefits,
health care benefits (Medicare), and survivor benefits. In general, you must pay
Self-Employment Tax and file Schedule SE (on Form 1040) if either of the
following applies:

Your net earnings from self-employment income were $400 or more

You work for a qualified church-controlled organization (other than as a

minister or member of a religious order) that has elected an exemption from
Social Security and Medicare taxes. In this case, you are subject to SE Tax if
you earn $108.28 or more in wages from the church/organization.

To pay self-employment tax, you must have a Social Security number (SSN) or
an individual taxpayer identification number (ITIN).
Note that there are special rules for fishing crew members, notary public
employees, aliens, state or local government employees, foreign government
employees, and international organization employees.
You should also note that whenever SE tax is mentioned, it generally only refers
to Social Security and Medicare taxes, and does not include any other taxes that
self-employed individuals may be subject to. Keep in mind that other information
may be required for your particular type of business.
You may deduct of your self-employment tax as an adjustment to your income
on Tax Form 1040. Keep in mind that the Social Security Administration (SSA)
places a time cap on how long you have to report self-employment income, and
you can typically only get credit for self-employment income that is reported
within 3 years, 3 months and 15 days after the tax year during which you earned
the income.
Self-Employment Tax Rate

The SE tax rate for calendar year 2010 is 15.3% -- which breaks down to12.4%
for Social Security (old age, survivors, and disability insurance) and 2.9% for
Medicare (hospital insurance). The SE tax rate for calendar year 2011 is 13.3% -which breaks down to 10.4% for Social Security and 2.9% for Medicare. Note
that the Tax Relief Act of 2011 decreased the self-employment tax rate by 2% for
self-employment income that was earned in 2011.
All of your combined earnings in the current year may be subject to any
combination of Social Security tax, Medicare tax (2.9%), or railroad retirement tax
(tier 1).
For tax years 2010 and 2011, the first $106,800 of your combined earnings may
be subject to a combination of railroad retirement tax (tier 1), Social Security tax,
and the Social Security part of self-employment tax. Any income you earn over
$106,800 will not be subject to the Social Security tax.
If your wages (including tips) are subject to Social Security tax and/or railroad
retirement tax (tier 1), and your wages are at least $106,800, you may not be
subject to the Social Security part of the self-employment tax on any of your net
earnings. Regardless, you must still pay the Medicare part (2.9%) of the selfemployment tax on all of your net earnings.
If you do not file based on the calendar year, note that you must use the tax rate
and earnings limit that is effective at the beginning of your tax year. Even if the
tax rate and/or earnings limit changes during the year, you must continue to use
the same rate and limit throughout your entire tax year.
Bear in mind, the self-employment tax rules above will apply regardless of your
age even if you have already begun receiving Social Security or Medicare
benefits. For more information, please refer to the IRS Publication 533 (SelfEmployment Tax).