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Surprising Things That Count as Taxable Income

We all know that we must pay both income and social security taxes on employment income as well as any contract labor. But the IRS levies income taxes on some other sources of income too – some more surprising than others. If you received a windfall [1] or other unexpected funds in 2010, chances are the IRS will view it as income. Read below for some of the most overlooked items.

Taxable Items

Generally speaking, the IRS taxes anything that leaves you in a better economic position than you were before you received it. Sometimes, like when you sell a house, the IRS has credits or deductions to eliminate all or part of the tax. Other times, you simply have to pay up. Prepare to open your wallet for:

  • Scholarships/financial aid: Scholarships and financial aid [2] used for tuition or other required fees, books, or supplies are not taxable (and they must be subtracted from any tuition tax deductions [3]). However any funds that are used for living expenses, travel, or expenses that are not required are considered income by the IRS [4] and fully taxable. Students not enrolled in a degree program may have to pay taxes on all financial aid, even when spent on otherwise qualified expenses.
  • Debt settlement: If you find yourself unable to pay credit card or other debts, the lender may negotiate with you to pay a reduced amount. Any forgiven debt is subject to taxation [5] and will be reported to the IRS if it is more than $600. If you have a negative net worth at the time of the settlement, the IRS may waive the tax liability. Until 2012, this does not apply to debt cancellation involving a principal residence mortgage. Taxpayers also do not owe taxes on any debts discharged through bankruptcy.
  • Gambling Winnings: If you hit the jackpot in Vegas or win the lottery, you will owe the IRS [6] a nice chunk of change. This is one of the main reasons people might choose to take annual payments, when they’re an option, rather than a lump-sum payout.
  • Prizes: Along with lottery and other gambling winnings, you will have to pay taxes on any prizes you received, regardless of whether they were given in the form of cash. If your church or child’s school sold raffle tickets, and you win a car, you’ll have to pay taxes on the cash value of that car. Ditto for any game show or contest winnings [7].

Exceptions to the Rule

  • Gifts: If you received a gift from a friend, relative or perfect stranger, you do not have to pay taxes on it – but they might [8]. However, be aware that any money exchanged between an employer and employee is considered compensation and therefore taxable income.
  • Fringe Benefits: To encourage employers to provide more benefits across the board, the IRS [9] allows them to take a tax deduction for the value of many of those benefits, and also allows you to receive the benefits tax free. Tax-free benefits include things like your health insurance, childcare assistance, and access to gym facilities on the employers’ premises. But other benefits may be taxable, especially if they’re only offered to certain employees – your employer should notify you if you are affected.

In addition, Credit Card Rewards are generally not taxable [10].

If you’re looking for something specific that you don’t see on the list, feel free to ask about it in the comments. But as a general rule of thumb, the answer to your question is simple: if you had measurable economic gain, it’s probably taxable. Exceptions do exist, so check with your accountant or tax preparer if you’re really not sure!