Taxable income is an individual’s income that is subject to an income tax. Generally, all wages that are considered taxable must be reported on an individual’s tax return.
Learn what taxable income is and what kinds of income are subject to taxation by the Internal Revenue Service (IRS).
Definition and Example of Taxable Income
Taxable income is income on which an income tax may be collected. This amount must be reported on an individual’s tax return come tax season.
For example, the following types of income are all taxable for federal income tax purposes:
- Business and self-employment income
- Gambling winnings
- Most interest income
- Pass-through income
- Rental income
- Unemployment compensation
- Wages, salaries, bonuses, and commissions
Keep in mind that just because you received a taxable item of income during the year does not necessarily mean you have to pay taxes on it. This is because you are permitted to subtract relevant adjustments and deductions from the amount of your income subject to tax when calculating your tax liability on your tax return, such as Form 1040 for federal income tax purposes.
Sometimes, the phrase “taxable income” is used only to describe taxpayer-specific income that a taxpayer owes. For example, on Form 1040 for federal income tax purposes, this taxpayer-specific taxable income amount is calculated by taking the taxpayer’s total income subject to tax, then subtracting any adjustments to income, the taxpayer’s standard deduction or itemized deductions, and the taxpayer’s qualified business income deduction if they have one.
How Taxable Income Works
Generally speaking, for federal income tax purposes, all income a taxpayer receives is taxable income unless the tax law of the Internal Revenue Code specifically exempts it from tax. Therefore, all income earned by United States citizens and residents is taxable income unless the Internal Revenue Code specifically states that a particular item of income is not taxable.
Other jurisdictions imposing income taxes—such as state governments—have their own tax laws that determine whether a portion of income is taxable or not. This means some of a taxpayer’s income may be taxable income for federal income tax purposes, and nontaxable income for state income tax purposes, and vice versa.
For example, while unemployment compensation is generally taxable for federal income tax purposes, some states, such as California, exclude unemployment compensation for state income tax purposes.
On the other hand, while municipal bond interest income is generally nontaxable for federal income tax purposes, only interest on municipal bonds issued by California localities is nontaxable for California income tax purposes. Interest on municipal bonds issued by non-California localities is taxable in California.
Taxable Income vs. Nontaxable Income
While taxable income is income that is subject to tax, nontaxable income is income that is not subject to tax because the relevant tax law states it is not taxable.
Even though nontaxable income is not subject to income tax, it may still have to be reported on the recipient’s tax return. For example, if you are eligible for a refund from a qualifying adoption of a child, a portion of that may not be taxable, but it must still be reported.
For federal income tax purposes, the following kinds of income are generally nontaxable for federal income tax purposes:
- Child support
- Dividends on life insurance
- Life insurance proceeds
- Interest on municipal bonds
- Supplemental Security Income (SSI)
Sometimes, whether an item of income is taxable or nontaxable will depend on other components of a taxpayer’s tax return. For example, a taxpayer’s Social Security benefits received may be taxable if one-half of the amount of their benefits, plus all their other taxable income, plus their tax-exempt interest, is greater than a certain amount based on their filing status.
- Taxable income is income that is subject to an income tax, and must be reported on a tax return come tax filing season.
- Sometimes, taxable income is used to describe the calculated amount on which a taxpayer’s income tax liability for the year is based.
- Examples of taxable income in the United States include business income, dividend income, most interest income, and wages.
- An item of income may be taxable income for federal income tax purposes but nontaxable for state income tax purposes, and vice versa.