What Is Considered as Taxable Income?

Confused by taxable income?

If so, you’re not alone. Many of us struggle to make sense of complicated IRS requirements, and it can be hard to know which income streams are subject to tax and which ones aren’t.

While tax is important to a functioning society, none of us want to overpay in tax, so it’s useful to know which income needs to be taxed.

Read on to learn what is considered taxable income and start making sense of your tax filing!

Wages and Salaries

When we think of annual taxable income, most people think of wages and salaries first.

For many, salary is the main amount of money that makes up their taxable income. Whether you’ve paid a salary or an hourly wage, we all need to pay tax on income earned throughout the year.

However, this is made a bit simpler by your employer, who likely withholds state and federal tax from each paycheck. Note that some states do not have an income tax, so in that case, you’ll only need to pay federal taxes.

When it comes time to file taxes, you’ve likely already paid taxes throughout the year, so you may not owe any money.

Many people will actually get a refund when filing their taxes, as they’ve accidentally overpaid throughout the year. This can be a great relief!

Self-Employed Earnings

If you’re self-employed, you need to file taxes on this income as well. You may fall into this category if you own your own business, do freelance work, or if you’re working as a contractor.

However, a big difference for self-employed workers is that your employer doesn’t usually withhold taxes. This means you’ll need to calculate tax on your own.

You can make this easier on yourself, avoiding a large tax bill, by setting aside roughly what you think you’ll owe in tax each month. You can calculate taxable income easily if you know your state and federal tax rates.

This makes budgeting easier, and you won’t be surprised by a large bill when tax time comes.

To make it easier to work out your earnings and tax, use a paystub maker to create your pay stubs.

Awards and Winnings

Have you won the lottery or received large award payments through work or elsewhere? While the extra money is sure to be appreciated, remember that it is considered taxable.

Remember to add any bonuses, awards, or winnings when calculating taxable income.

Severance Pay

Have you been laid off from work in the past year? If so, it’s no doubt been a challenging time. If you could receive severance pay from your previous employer, that money would go a long way to help you stay afloat until you can find a new job.

Unfortunately, all the money isn’t yours to keep, as the IRS considers severance pay taxable income. The income generated by tips is also considered taxable, so you need IRS form 4070 to report tip-based earnings to your employer.

In the eyes of the government, severance pay is the same as any other income and, therefore, subject to the same tax. Although some may consider this unfair, you’ll still need to report severance pay to the IRS.

Capital Gains

Have you recently made a profit selling real estate, high-value items like jewelry, or stocks and bonds? If so, the profit you earn is likely to be taxed.

The main exception to this is profit from selling your primary place of residence. Owner-occupied homes have an exemption of up to $250,000.

If you sell your home and make a profit of more than $250,000, then you’ll be taxed on anything over that amount. But, if your profit is $250,000 or less, you won’t be subject to capital gains taxes.

If you’ve made a lot of high-value sales over the last year, including investment properties, ask your accountant for advice.

Interest Earnings

Have you done well in the stock market this year or made a profit from dividends of investments?

If so, that counts as income and will need to be declared in your taxes. The tax rate for your interest earnings varies, depending on how much you’ve earned.

Royalties

Suppose you regularly (or occasionally) earn money from any work you’ve created, such as published books, music, or entertainment. In that case, you may receive royalty checks, compensating you for the use of your work.

Royalties are considered taxable income, even if they are only small amounts. If you receive monthly royalty checks, create a spreadsheet to keep track of them so you can declare the correct amount when it’s time for taxes.

Is There Any Income That’s Not Taxed?

As you can see, quite a few income sources count as taxable income. However, there are a few payments that are not taxed.

Below are a few examples of non-taxable income.

Child Support

If your ex-spouse or partner provides child support payments for a child or children, then these payments are not taxable.

As it’s not counted as income, you can receive child support payments without having to worry about them when it’s tax time.

Scholarships

If you’ve received a full or partial scholarship to study or a fellowship, the good news is that this isn’t taxable income.

Scholarships are intended not as a salary but to help you pay for your education costs, so 100% of the money can go towards that purpose.

Disability Benefits

In most cases, disability benefits are not taxable. The same is true for Social Security benefits. If in doubt, always speak to your accountant.

Calculate Your Taxable Income Correctly

As you can see, taxable income is a complex and varied process, with many forms of income involved. However, now that you have a better understanding of how it all works, it should be easier for you to calculate how much tax you’ll owe.

Stay on top of your record-keeping throughout the year, and tax time will be a breeze! Get started today and make sure you’re paying the right amount of tax.

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