Are you just starting your tax journey? Have you been employed by someone else in the past and are now working for yourself as a small business owner, independent contractor, or freelancer? Did your side hustle take off? Let’s talk about taxable income.
What is Taxable Income?
According to Investopedia, taxable income is “the portion of an individual’s or company’s income used to calculate how much tax they owe the government in a given tax year.” Taxable income includes wages, salaries, bonuses, tips, investment income (profits and dividends), and some types of unearned income (unemployment compensation, pensions, annuities and some social security benefits). Basically, if you received money from a person, business, or government program this year, there’s a large chance it is considered taxable income.
One big exception to this rule is if the business is a nonprofit. Non-profit businesses are exempt from paying federal income tax, sales tax, and property tax if they meet certain criteria.
The amount of taxable income you are responsible for will vary based on how much you made in the tax year you are filing for. And the taxes on your income get increasingly higher as you make more money, so it is important to take a close look at your earnings every year.
How to Calculate Taxable Income
There are a few steps to calculating your taxable income:
- Determine your filing status. There are 5 filing statuses to choose from, and taxpayers always want to choose the filing status that results in the lowest taxes possible for their situation. The filing statuses are: single, married filing jointly, married filing separately, head of household, and qualifying widow(er) with dependent child.
- Gather all documents. You’ll need to gather all documents from all sources of income for you, your spouse, and your dependents, based on your living and family situation and the filing status you chose. Form W-2s are given when income is earned by a traditional employee of a company. Form 1099-NEC is used when you complete work as a freelancer or independent contractor, and Form 1099-MISC is used if you received more than $600 in income from other income streams like rent, prizes, fishing boat proceeds, or crop insurance payments, for example. Form 1099-INT is used when you make more than $10 in interest during a tax year.
- Calculate Taxable Income. AGI and Deductions. Once you have your documents, you will use Form 1040 to report all of the income listed on those documents, thus calculating your gross income for the year. After that, you’ll use the Schedule 1 to adjust your income to exclude things like student loan interest, self-employment deductions, and more. Once you add up the adjustments and subtract it from your gross income, which will give you your AGI (adjusted gross income).
The majority of all earned income is taxable, but there are a few types of income that are non-taxable.
Non-taxable wages include gifts, disability wages, states with no income tax, partnership income, insurance provided by the employer, life insurance payouts, scholarship and financial aid, welfare benefits, and other less common payments.
Taxes Are Hard, but Tax Prep Doesn’t Have to Be
We talked about taxable and non-taxable income, but don’t forget about small business deductions and tax credits, too. There are a lot of different ways to do your taxes, and we want to make sure yours are error-free and allow you to keep as much of that earned income as possible.
When it comes to reporting taxable income, eFile360 can help. Sign up for a free account today.