Taxable income has been defined as income from whatever source derived. This is a pretty broad definition and encompasses any income you can imagine. For example, illegal income from gambling, drug sales, illegal firearms sales are subject to taxable income. The infamous Al Capone was finally convicted and put in jail for tax evasion for his illegal income.
It is of paramount importance to understand that businesses and individual taxpayers that receive income in the form of cash must account for and pay income taxes and where applicable social security taxes on such amounts received.
It is obvious to many that amount shown on Form W-2s, Form 1099s and the like are taxable income that must be reported on Form 1040. But what about lesser encountered items of income, such as severance pay, lawsuit settlements, and disability payments, and other unusual amounts received? These and other amounts received are discussed below to give the reader an idea of whether such amounts are taxable income. They have been listed in alphebetical order to aid the reader in quickly finding items that they may have received.
Qualified scholarships and fellowships are treated as tax- free amounts if all of the following conditions are met:
In most cases, alimony, separate maintenance, and similar payments from your spouse or former spouse are taxable to you in the year received.
Certain employers must allocate tips if the percentage of tips reported by employees falls below a required minimum percentage of gross sales. To “allocate tips” means to assign an additional amount as tips to each employee whose reported tips are below the required percentage. All tips you receive are taxable. If you do not have adequate records for your actual tips, you must include the allocated tips shown on your Form W-2 as additional tip income on your return.
Bartering occurs when you exchange goods or services without money exchanging. The goods or services exchanged have a dollar or fair market value, and this value must be included in the income of both parties.
Some types of income taxpayers receive are not taxable and child support is one of them. When you total your gross income to see if you are required to file a tax return, do not include this nontaxable income.
Gambling winnings are fully taxable and must be reported on your tax return. As an offset, gambling losses may be claimed as a miscellaneous itemized deduction only to the extent of gambling winnings.
Generally, property you receive as a gift, bequest, or inheritance is not included in your income. However, if property you receive this way later produces income such as interest, dividends, or rentals, that income is taxable to you.
If you inherited certain items called income in respect of a decedent, such amounts become taxable. For example, retirement plan distibutions from qualified plans such a 401(k), profit sharing, money purchase or pension plans as well as Individual Retirement Arrangements (IRAs) will be taxable to the recipient. Other items such as annuities and savings bonds received by a beneficiary have income tax implications.
For court awards and damages, to determine if settlement amounts you receive by compromise or judgement must be included in your income, you must consider the item that the settlement replaces.
The following law suit recoveries are taxable as ordinary income:
The following compensatory damages for the following items are not taxable income:
The taxability concerning life insurance depends on various factors. Generally, life insurance proceeds are not taxable income:
Payments you receive from qualified long-term care insurance contracts are generally excluded from income as amounts received for personal injury or sickness.
Generally, you must report as income any amount you receive for your disability through an accident or health insurance plan if paid for by your employer. If both you and your employer pay for the plan, only the amount you receive for your disability that is due to your employer’s payments is reported as income.
If you pay the entire cost of a health or accident insurance plan, do not include any amounts you receive for your disability as income on your tax return. If you pay the premiums of a health or accident insurance plan through a cafeteria plan, and the amount of the premium was not included as taxable income to you, the premiums are considered paid by your employer.
If you win a prize in a lucky number drawing, television or radio quiz program, beauty contest, or other event, you must include it in your income. For example, if you win a $500 prize in a sweepstakes contest, you must report this income on your tax return in the year received.
Dividend reinvestment plans let you choose to use your dividends to buy (through an agent) more shares of stock in the corporation instead of receiving the dividends in cash. If you are a member of this type of plan and use your dividends to buy more stock at a price equal to its fair market value, you must report the dividends as income. If you are a member of a dividend reinvestment plan that lets you buy more stock at a price less than its fair market value, you must report as income the fair market value of the additional stock on the dividend payment date. Note, that this amount becomes your basis in the stock received pursuant to such reinvestment plan.
If you use a dwelling as a home and rent it for fewer than 15 days during the year, do not report any of the rental income and do not deduct any expenses as rental expenses. In this case, you may deduct some expenses on Schedule A (Form 1040), such as mortgage interest, property taxes, and any casualty losses.
If you receive retirement benefits in the form of pension or annuity payments, the amounts you receive may be fully taxable, or partly taxable, depending on many factors including employee contributions. If you cannot use the Simplified General Rule, you can ask the IRS to figure the tax-free part of your pension under the General Rule. If your annuity starting date is after November 18, 1996, you generally cannot use the General Rule for annuity payments from a qualified plan.
Amounts you receive as severance pay are taxable. A lump-sum payment for cancellation of your employment contract is income in the tax year you receive it and must be reported with your other salaries and wages.
Amounts you receive from your employer while you are sick or injured are part of your salary or wages.
You must include in your income sick pay from any of the following:
If your “provisional income” is above a certain base amount, a portion of your Social Security benefits (up to 85%) may be taxable. “Provisional income” is your modified adjusted gross income plus one-half of the Social Security benefits.
If you itemized deductions on your federal tax return for a prior year, and received a refund of state or local taxes in the subsequent, you may have to include all or part of the refund as income on your tax return for the year of receipt. If you did not itemize your deductions on your federal tax return for the same year as the related refund year, do not report any of the refund as income.
If you are granted a non-statutory stock option, the amount of income to include and the time to include it depend on whether the fair market value (FMV) of the option can be readily determined. If your stock option is granted under an employee stock purchase plan, you do not include any amount in your gross income as a result of the grant or exercise of your option. You report income or loss when you sell the stock that you purchased by exercising the option.
Remember that the above is just an overview and does not cover all forms of taxable and tax free income. In certain situations it may be difficult to determine whether a something is taxable income. Please consult with a tax professional to get a definitive answer.
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