Coming into extra or unexpected income is good news, so don’t let Uncle Sam ruin the fun by catching you not paying appropriate taxes.
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Here is a breakdown of when you need to declare unexpected income on your tax return :
Inheritance. For the most part, anything you receive as the beneficiary of an estate, such as cash and property, is nontaxable unless you inherit an IRA or other retirement plan. Because these funds have been sheltered from taxation, you are required to pay taxes on it. But let’s say your grandma left you the balance in her checking account, $10,000. You can rest assured that this will come to you tax free. The estate may have to pay an estate tax, but as the beneficiary, you will not be obligated to pay taxes on what you receive.
Strike and Lockout Benefits. This situation doesn’t come up every day: If you are an employee and receive strike and lockout benefits from a union or from union dues, including cash and the fair market value of any goods received, you must include the amount as taxable income. However, if the facts clearly show that the compensation was intended as a gift, it is not taxable. In order to qualify as a gift, you will need some documentation to back it up. According to the IRS, “The union also must inquire into the recipient’s personal needs and make payments accordingly.”
Gifts. I get more calls regarding the taxes required on gifts than any other topic. “Mom gave me $20,000 so I can make a down payment on a condo. Do I have to pay tax on that?” No. In fact, it’s the giver of the gift who may be subject to tax on gifts given. For 2012, the annual exclusion is $13,000. For 2013, the exclusion is $14,000. You cannot exclude any part of gifts of a future interest.
Gambling Winnings, Prizes and Awards. If you win the lottery or a new car from a raffle or the jackpot on a slot machine in Vegas, you must pay income tax on the proceeds. However, you are entitled to deduct gambling losses against that income. That’s why it is a good idea to keep those losing lottery tickets and track all other losses (casinos will do it for you if you ask) so that you have proof of the write off in the event of an audit.
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Insurance Settlements. If your ex blew up your brand new Corvette, or a tree crashed through the roof of your house, you will likely receive an insurance settlement. There is a chance that part of that settlement may end up as taxable income to you, but you will have to complete IRS Form 4684 Casualties and Thefts to find out. If the insurance reimbursement is not enough to cover what you initially paid, it’s likely you’ll have a deduction rather than income to declare.
Benefits Received from Long Term Care Insurance. Amounts received from these contracts are considered as funds received for personal injury or sickness and as a reimbursement for medical care and therefore excludable from income. However, it the per diem is exceeded, the overage will be considered taxable income.
Disability Benefits. For the most part, these benefits are considered nontaxable pay especially if received through an accident or health insurance policy. However, in some rare instances, it is taxable income, so check with your provider to make sure.
Exclusion for Health Savings Account (HSA) Distributions. If you have an HSA from which you paid your medical and dental expenses, you will receive a 1099 from the provider indicating how much you paid out--this is not necessarily taxable income to you. The only time an HSA distribution is taxable is if you use the funds for purposes other than medical. Complete the worksheet and forms on your tax return to show that this income is nontaxable. If you simply ignore the 1099 without completing the forms, the IRS may question the taxability of the proceeds.
Damages. Compensatory damages that you receive due to a personal physical injury or personal physical sickness are tax-free but punitive damages are usually taxable. Almost all other forms of damages are considered taxable income.