What income is subject to tax?

When it comes to income and taxes, all income is subject to tax. Income translates to gross income and “gross income means all income from whatever source derived.” Gross income includes items such as compensation for services (wages, fees, commissions, etc.), income from business, interest earned, rents, royalties, dividends received, receipt of alimony and separate maintenance, annuity or income from life insurance and endowment contracts, pensions, discharge of debts, barter income, a percentage of Social Security benefits, strike benefits, sick pay, income in respect of a decedent, and income from an interest in an estate or trust. Even income derived from illegal activities is subject to tax.

How to Determine Taxable Income

The best way to determine which forms of income are subject to tax is to consider the documentation used for the forms of income. For instance, IRS income forms that are filed by your employer and sent to the IRS annually show taxable income. In fact, if you used the correct withholding amount, the taxes have already been collected for this income and you will not owe anything further to the IRS.

Some other tricky sources of income include raffle prizes, bonuses, profits from the sale of certain property such as homes and artwork, and business-related perks such as airline miles that your work permits you to use for personal vacations. Also, any time debt is forgiven, the amount forgiven is considered income and is taxable. Non-taxable income includes anything that was considered an even trade, exchange, or barter. For instance, if you traded your year-old car seat to a friend for your friend’s old double stroller, you have made an even exchange that is not taxable.

Case Studies: Understanding Taxable Income

Case Study 1: Self-Employed Entrepreneur

John is a self-employed entrepreneur who runs a successful digital marketing agency. He receives payments from various clients for his services. While calculating his taxable income, John needs to consider all the income he earns through his business activities, including fees, commissions, and profits.

He also needs to account for other sources of income, such as interest earned on his business savings account. Consulting with a tax specialist, John gains clarity on what constitutes taxable income and ensures accurate reporting to the IRS.

Case Study 2: Freelance Artist

Mary is a freelance artist who sells her artwork online and at local art fairs. She’s not entirely sure which of her earnings are subject to taxation. After seeking advice from a tax attorney, Mary learns that the proceeds from selling her artwork, as well as any profits from the sale of other property like her old paintings, are considered taxable income.

Additionally, she needs to report any income she receives from grants or prizes won in art competitions. Armed with this knowledge, Mary now confidently complies with tax regulations, avoiding potential audits in the future.

Case Study 3: Employee With Additional Benefits

Sarah works as a marketing manager for a large corporation, and her employer offers several benefits, including occasional travel perks and performance bonuses. Wondering if these perks are subject to taxation, Sarah decides to consult with a tax specialist.

She discovers that while some benefits like airline miles received from work travel may be taxable, others like non-cash gifts below a certain value might be exempt. Sarah ensures she accurately reports all taxable income to the IRS, preventing any unexpected tax liabilities.

Case Study 4: Debt Forgiveness

James faced financial hardships and had a portion of his outstanding debt forgiven by his creditors. Unaware that debt forgiveness is considered taxable income, he didn’t report it on his tax return.

When the IRS conducted an audit, James was shocked to find out he owed back taxes, including interest on the amount forgiven. After this experience, he seeks professional advice from a tax attorney to fully understand the implications of various income sources and avoid similar issues in the future.

Getting Help

While all income is considered taxable, many people do not fully report their income and then end up being audited as a result. If you are unsure what is considered taxable income and what is not taxable income, consult with a tax specialist or a tax attorney. It is always better to be safe than sorry because all back taxes that you owe have interest applied to the amount owed.