Taxable income can feel confusing, especially when life changes introduce new earnings or unfamiliar financial situations. Wages, freelance work, tips, and other forms of compensation all contribute to the amount the government uses to determine your tax obligation. The total isn’t based solely on what you bring in, though. Deductions and certain adjustments reduce the figure that ultimately matters, shaping how much you owe and helping create a clearer understanding of your overall tax responsibility.
If You’re Paid for Work, That’s Taxable Income
The first stop on the taxable income train is to know that any payment you receive from your employer or business paying you for your service is taxable income. So your salary, hourly wage, tips, and freelance work are all subject to taxes.
If you have an employer, it’s a straightforward process. They typically calculate taxes for you and withhold them from your paycheck. They obviously won’t do this for any side-gigs or investments you have, though. But it’s one way the business you work for can take the pressure off come tax time. A quick note that bonuses are also taxable income.
Things get a little more complicated for freelancers, and you will need to set aside your own quarterly and yearly taxes.
Investments, Winnings, and Certain Windfalls
When you get a huge influx of money suddenly, it’s safe to consider it taxable.
Investments are part of your taxable income. That includes rent payments you received, profits from real estate sales, any stocks you own, or any other passive investments you might have. Winnings from any gambling activities are also considered taxable. Royalties and unemployment compensation are also considered taxable.
But What Isn’t Taxable Income?
Okay, we just said that most of your yearly cash flows are taxable. That is still true. But there are some really important exceptions to be aware of that could save you stress. A few examples of non-taxable income include (but are not limited to):
- Life Insurance Payouts
- Welfare and Veterans Benefits
- Inheritance
- Scholarships
- Child Support
- Up to $250,000 in Gains from Selling Your Primary Residence ($500,000 if you’re married)
- This is by no means an exhaustive list, but if you get a sudden influx of cash it’s always good to double-check.
Deductions
It’s a magic word: deductions. And like magic, deductions decrease your taxable income. The result? You end up paying less in April, but people don’t always know what they can claim as a deduction. Generally, deductions include things like:
- Charitable Donations
- Student Loan Interest
- Teacher Educational Expenses
- Gambling Losses (to the extent if your gambling gains)
- Real Estate and Property Taxes (subject to $10,000 state and local taxes cap)
- Moving Expenses (only available to military personnel required to move at least 50 miles away)
- Medical and Dental Expenses
- Health Savings Accounts
- Sale of Personal Residence
- Business Expenses
Things do get a little easier here for self-employed people. If you are operating your own business, the rules for what you can claim as a business expense are broad. Business expenses mean deductions, which means lowering your taxable income. There are some restrictions on this, but it does mean that you can deduct things like office supplies, technology, or other work items.
You can find a full list of tax deductions for individuals here.
Always Double Check, Always Deduct Where You Can
There are some people out there who love doing their taxes. If you make enough money, you may even outsource the job to an accountant to handle them for you. For most of us, it can be a confusing experience. It can also be, well, embarrassing to admit we don’t fully understand something. Even if you don’t want to know all the forms inside and out, understanding your taxable income can save you money. Or at least save you from wincing when you realize you owe the IRS money you didn’t plan on needing to pay.