Understanding Taxable Income: Definitions and Methods for Calculation
In the realm of taxes, it's essential to know what income is taxable and what isn't. This article aims to shed light on the various types of taxable income that individuals must report to the Internal Revenue Service (IRS) on their federal tax returns.
Firstly, earned income such as wages, salaries, commissions, bonuses, tips, and other compensation earned from employment is a common type of taxable income. Self-employment income, including money earned from freelancing, independent contracting, gig work, or owning a business, also falls under this category and is subject to taxation.
Capital gains, profits from the sale of assets such as real estate, stocks, or other investments, are another taxable income. Interest and dividends from savings accounts, bonds, and stock dividends, royalties for the use of your property or intellectual property, and lottery or gambling winnings are also taxable.
However, it's important to note that not all income is taxed at the federal level. Life insurance proceeds received as a beneficiary and employer-provided health insurance aren't included in gross income.
Unemployment benefits, income received from unemployment insurance, are considered taxable income and must be reported. Disability payments, such as Social Security disability benefits, can also be taxed if considered earned income.
Contributions made to a health savings account (HSA) are another above-the-line deduction, along with deductible self-employment taxes, self-employment costs for health insurance premiums, and educator expenses. Contributions to certain retirement plans, such as 401(k)s and IRAs, also qualify as above-the-line deductions.
The portion of your income subject to federal tax is called taxable income. This figure is determined by subtracting all applicable deductions from your gross income. Common but often overlooked tax deductions include charitable contributions and donations, student loan interest paid, and unreimbursed medical expenses.
It is crucial to remember that taxable income rules at the federal level may differ from state rules. Some states do not tax unemployment benefits, for example.
Understanding your taxable income can help determine your tax bracket, marginal tax rate, and potential tax bill. If you have self-employment earnings of $400 or more, you are required to file a tax return and pay self-employment taxes (Social Security and Medicare).
In summary, the IRS requires reporting of almost all types of income unless explicitly excluded, including employment compensation, business income, investment income, and certain government benefits. A trusted tax professional can help ensure you don't miss out on tax breaks for which you qualify.
Personal-finance enthusiasts should be aware that mining income, such as profits from cryptocurrency mining, is also a form of taxable income and must be reported to the IRS as it falls under the category of investment income. Additionally, in the realm of personal finance, it's essential to know that financial earnings derived from various investments, like interests, dividends, and capital gains, are all taxable and need to be reported and calculated as part of one's taxable income.
