In terms of taxation, a taxpayer’s income can be categorized as taxable and non-taxable income. Let us now explore the various points of differences between the two:
Table Of Contents
Difference Between Taxable And Non-Taxable Income
Both Taxable and Non-Taxable Income are counted as one’s earnings and reported to the state and federal tax authorities. However, while taxable income is the portion of a taxpayer’s total earnings that is subject to local, state, or federal taxation during a particular year, non-taxable income is exempt from all such tax liabilities. Some examples of taxable income include wages, salaries, self-employment income, rental income, dividends, interest, and commission, and non-taxable income includes municipal bond interest, gifts, child support benefits, healthcare benefits, and insurance proceeds.
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Key Takeaways
- Taxable income is the amount of gross earnings of an individual or firm on which the state and federal tax authorities compute the taxes during the given tax period.
- Non-taxable income is that portion of gross earnings eligible for various tax deductions and exemptions allowed by the tax authorities.
- The taxable income comprises employee compensation, rental income, business profits, interest, commission, dividends, stock options, and miscellaneous income.
- On the contrary, the non-taxable income includes gifts, healthcare benefits, insurance proceeds, Roth RAI, child support benefits, fringe benefits, and municipal bond interest.
Comparative Table
| Basis | Taxable Income | Non-Taxable Income |
|---|---|---|
| 1. Definition | It is that part of an individual or firm’s gross annual earnings, which is required to be reported to the tax authorities to ensure serving their state and federal tax liabilities. | It is that part of an individual or firm’s gross annual earnings, which is required to be reported to the tax authorities to ensure serving their state and federal tax liabilities. |
| 2. Includes | Salaries, wages, self-employment income, rental income, interest and dividend, commission, stock options, awards, royalty payments, and unemployment compensation, cash prices, miscellaneous income, non-employee compensation beyond $600, etc. | Salaries, wages, self-employment income, rental income, interest and dividend, commission, stock options, awards, royalty payments, and unemployment compensation, cash prices, miscellaneous income, non-employee compensation beyond $600, etc. |
| 3. Tax Liability | State and Federal tax obligations are computed on the taxable income. | State and Federal tax obligations are computed on the taxable income. |
| 4. Deductions | Eligible for tax deductions and exemptions to reduce the overall tax liability | Eligible for tax deductions and exemptions to reduce the overall tax liability |
| 5. Tax Credits | Eligible for tax credits | Eligible for tax credits |
| 6. Reporting | The taxpayers have to report such income to the tax authorities compulsorily. | The taxpayers have to report such income to the tax authorities compulsorily. |
| 7. Example | Johnson earns $100,000 during a tax year, of which $95,000 is taxable income. | Johnson earns $100,000 during a tax year, of which $95,000 is taxable income. |
What Is Taxable Income?
Taxable income refers to the amount of the gross annual income of a taxpayer, which is accounted for in the computation of their tax liability by the state and federal tax authorities. Individuals and companies must report such earnings in their income tax returns. It includes taxpayers’ salaries, wages, self-employment income, rental income, interest and dividend, commission, stock options, royalty payments, earnings from fringe benefits, non-employee compensation beyond $600, unemployment compensation, miscellaneous income, etc.
The Internal Revenue Service (IRS) levies state or federal taxes on almost all types of earnings. The money won in the lottery is also taxable under the IRS. However, taxpayers can claim tax exemptions in a few cases where the income is considered tax-free by the tax authorities. Thus, the income subject to such taxes is evaluated as the adjusted gross income after subtracting the eligible deductions and exemptions (non-taxable income) from the gross annual income. Some of the standard and itemized deductions include:
- Charitable donations;
- Mortgage interest and property taxes paid;
- Educational expenses;
- Paid local and state taxes;
- Retirement account contributions; and
- Health savings account deposits
What Is Non-Taxable Income?
Non-taxable income is the share of gross annual earnings of individuals, sole proprietorships, partnerships, S corporations, and other for-profit and non-profit organizations that is not accounted for when calculating state or federal taxes. Such earnings are exempt from tax liability irrespective of whether they are reported to the tax authorities.
This tax-free income includes all the eligible tax deductions and exemptions such as healthcare benefits, gifts, child support payments, welfare benefits, inheritances, insurance proceeds, cash rebates, municipal bond interests, disability benefits, Roth retirement account income, social security benefits, etc. Moreover, the federal income tax refund also has no tax obligations imposed.
Different tax agencies have different sets of guidelines and considerations for taxable and non-taxable incomes. For instance, in the US, alimony is tax-free if received from a divorce case registered in or after 2019. In addition, single homeowners are relieved from paying taxes on the sales proceeds of their primary house up to a value of $250,000 for individuals and up to $500,000 for joint tax filers. The condition is that the taxpayers should have resided and owned the house for a minimum of two years in the past five years and shouldn’t have claimed this exemption in the previous two years from the date of selling the house.
Similarities
Although the Internal Revenue Service (IRS) clearly segregates the various items and sources of income generated by a taxpayer into taxable and non-taxable categories, there exist some identical features between these two forms of earnings. Let us check them out below:
- Both taxable and non-taxable income account for the earnings that an individual, firm, partnership, S corporation, or other organization makes on a regular or one-time basis.
- They are usually derived from similar sources like employees’ compensation, business profits, interest and dividends, commission, etc., and taxpayers disclose all types of earnings in their tax returns, whether taxable or not.
- Business taxpayers keep a record of all their income, irrespective of its taxability, to ensure greater transparency and compliance. Income can be earned or unearned, received in cash, kind, barter, or other payment modes.
- Both taxable and non-taxable income figures influence each other. While non-taxable income can affect the tax credits and deductions on taxable income, if the taxpayer’s income surpasses a certain limit, it becomes partially taxable.
