Tax season is here: these 8 types of income might be nontaxable

Tax season is always a stressful time in America. Knowing what you don’t have to claim can help alleviate some of the tax burden.

Why It Matters: Tax day is April 18, 2023. Unless you request an extension, this is the date you’ll need to file by this year. With a number of pandemic-related factors still in play, it’s important to know what forms of income you do and don’t have to claim.

Go Deeper:

There are a number of types of income that may not be subject to federal income tax. Of course, you’ll want to check with your accountant or look into your state’s rules (if you’re filing yourself) before proceeding. But these eight different types of income might be nontaxable.

1. Gifts. Gifts are generally not considered taxable income. However, if you receive a gift valued at more than $16,000 from any one person in a single year, you may have to file a gift tax return using Form 709. Note that with a gift of property, such as stocks or real estate, you may be required to pay taxes on capital gains when you sell the property in the future.
2. Inheritances. Inheritances are also generally not considered taxable income. In fact, the federal government doesn’t have an inheritance and, currently, only six states (IA, KY, MD, NJ, PA & NE) impose an inheritance tax of any kind. If you inherit property, stocks, or other assets, you will not owe income tax on the value of those assets. But if you inherit an individual retirement account (IRA) or other type of tax-deferred retirement account, you may be required to pay income tax on the distributions that you receive from the account.
3. Life insurance proceeds. If you receive a payout from a life insurance policy due to the death of the insured, the proceeds are generally not taxable. However, if the life insurance proceeds in installments (such as through an annuity), the interest earned on the payments may be taxable income. If the policy was transferred for valuable consideration (such as in a viatical settlement), the proceeds may be taxable. Finally, if the estate of the deceased is subject to estate tax, the life insurance proceeds may be included in the taxable estate if the policy was owned by the deceased person at the time of their death. In this case, the estate tax would be paid by the estate, not by the beneficiary.
4. Child support. Child support payments are not considered taxable income for the recipient, and the payer cannot deduct child support payments on their tax return. It's important to note that alimony is considered taxable income for the recipient and is tax-deductible for the person making the payments, as long as certain requirements are met.
5. Workers' compensation. If you receive workers' compensation benefits due to a job-related injury or illness, those benefits are generally not considered taxable income. There are a few exceptions. If you also receive Social Security Disability Insurance or Supplemental Security Income benefits, workers’ compensation may be reduced or offset by the amount of the SSDI or SSI benefits you receive. Additionally, if you return to work and receive workers’ compensation benefits in the form of wage replacement, those benefits may be subject to income tax.
6. Veteran's benefits. Most veteran’s benefits, including disability compensation and pension payments, are not considered taxable income. There are some exceptions here as well. Retirement pay from the military is subject to income tax. If you receive VA benefits and have other sources of income, you may be required to pay income tax on some or all of your benefits.
7. Municipal bond interest. The tax treatment of municipal bond interest depends on the bond and the specific situation of the investor. In general, interest income from municipal bonds is exempt from federal income tax. If you purchase municipal bonds issued by your state of residence, the interest income may also be exempt from state and local income taxes. However, if you sell a municipal bond at a profit (beyond the accrued interest), the profit may be subject to capital gains tax.
8. Roth IRA withdrawals. If you withdraw money from a Roth IRA account, the withdrawals are generally not subject to federal income tax, as long as you meet certain requirements, such as being at least 59-and-a-half years old and having the account open for at least five years. If you withdraw before meeting the qualifying criteria, the withdrawal may be subject to income tax and a 10% penalty. Additionally, if you withdraw more than your contributions to the account, the earnings portion of the withdrawal may be subject to income tax and penalty.While the above types of income may be nontaxable at the federal level, some states may still require you to pay taxes on some of these types of income. Knowing what types of income are nontaxable can help you better manage your finances and minimize your tax burden.