Defining Taxable and Nontaxable Income, Part 2
There are a lot of gray areas when it comes to tax laws, so it’s no surprise that no matter how many times the IRS updates the tax code, filers still find themselves asking: “Well, what about this?” Especially when it comes to defining taxable or nontaxable income.
Tax law is so convoluted and filled with exceptions that it becomes more and more difficult every year to keep up. And there is no end in sight. Rather than simplifying the tax code, streamlining it, or creating a single simple premise (e.g. a flat tax or consumption based tax), it’s instead continually amended and tweaked with added concessions and compromises. There are now more words in the tax code than in the Bible.
So it’s no wonder that folks, even tax professionals, are confused. If you get an odd piece of income – something other than your W2 wages or a retirement distribution and you find you need to clarify the tax implications, here are some tips:
Child Support. Child support is not taxable income to the recipient or a deductible for the giver. However, it is used as an element to determine if your child qualifies as your dependent. After all, it’s usually the parent who provides more than 50% of the child’s support who can claim the child as a dependent.
Almony. Alimony, as specified in a Marital Settlement Agreement or anoher divorce document, is taxable income to the recipient and a tax deduction to the payer. It is not deductible simply because the giver pays it out of the goodness of his/her heart. It must be court ordered. The IRS loves to reclassify alimony as “division of property” giving it no tax impact whatsoever. For more info, check out this article: Alimony- Deductible and Declarable
Welfare benefits. Welfare benefits are not taxable income. Neither is the value of food stamps or child care benefits provided while a welfare recipient is undergoing job training.
Cash rebates from a dealer or manufacturer. If you purchase a car, jeans, or tomato sauce and are offered a rebate on the purchase price, you do not have to pay taxes on the rebate income. However, if the rebate is offered on an asset used in your business, you will have to reduce the basis of the asset by the rebate amount. For example, you purchase a new printer for the office for $1,000. The manufacturer offers a mail-in rebate of $150 which you receive in the mail. It should be booked as a reduction to your equipment asset account. When you do your taxes, and show the printer as a depreciable asset, the cost basis will be $850.00.
Life Insurance. Proceeds from a life insurance policy because of an insured person’s death are usually not taxable. But if you redeem a life insurance policy for cash, the amount that you receive that is more than the original cost of the policy becomes taxable income to you.
Scholarships. If you are lucky enough to be awarded a scholarship, it is not normally taxable. Here’s how it breaks down: amounts from scholarship proceeds used for tuition, books, computers, course materials and fees are not taxable. But if the proceeds of the scholarship are used for room and board it is taxable.