Tax-Free and Nontaxable Income: What Qualifies
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The IRS taxes just about everything — from your paycheck to investment income to lottery winnings. But what kinds of income does the IRS not tax?
14 types of tax-free income
Here's a quick guide to the types of income that Uncle Sam's tax collector doesn't get to reel in.
1. Educational assistance from your boss
If you receive educational assistance from your employer, the IRS allows you to exclude up to $5,250 of the amount from your income.
2. Adoption help from your employer
If your company helps you cover the cost of adopting a child, that’s usually not taxable income. For the 2024 tax year, the tax-free employer-provided adoption assistance is $16,810 per child. The amount you can exclude depends on your modified adjusted gross income.
3. Child support
Child support payments are not taxable income.
4. Payments for caring for children
Government payments to foster parents for their care of children officially placed in their homes are generally tax-free income.
5. Workers' compensation
If you get benefits for a workplace-related illness or injury under federal or state compensation law, that money is tax-exempt. However, if part of your workers' compensation reduces Social Security or railroad retirement benefits you’ve received, that part may be taxable. Also, if you go back to work on light duties, the salary payments might be taxable.
6. Life insurance proceeds
When these are paid to you because of the death of the insured person, the amount is usually not taxable. There are exceptions; IRS Publication 525 has the details.
7. Some canceled debts
If a lender cancels debt you owe, you may be able to exclude it from your gross income if the debt was canceled in a bankruptcy case, was canceled when you’re insolvent, was qualified farm debt, was debt associated with a qualified real property business, was intended as a gift or was for your home. There are exceptions and details to understand, so be sure to see IRS Publication 525.
8. Energy conservation subsidies
Say you upgraded your home's air conditioning system and got a rebate from your electric company as a reward for your energy-saving efforts. That financial thank you is generally tax-free income.
This is true whether the subsidy for purchasing or installing a home energy conservation measure was direct or indirect.
9. Municipal bond earnings
Interest you earn on state and local government bonds generally is not taxable. Even better, if you buy municipal bonds issued by the state in which you live, the interest usually isn’t taxable at the state level either.
10. Gifts
Financial gifts, either money or other assets, that you receive are not taxable. If any federal gift tax is owed, the giver is responsible for the tax.
11. Inheritance
There is no federal inheritance tax, so everything your relative left you shouldn’t pose any immediate tax issues. However, if they left you an asset that produces income, such as a dividend-paying stock, then you may owe tax on the money the bequest earns.
12. Accelerated death benefits
If you receive death benefits from a life insurance contract or viatical settlement because you’re terminally or chronically ill, you may be able to exclude the money from your income.
13. Disaster relief payments
If you’re the victim of certain disasters, you typically can exclude money you get from the government or transportation carrier to pay for personal expenses, funerals, home repair and property replacements that insurance doesn’t cover.
14. Some withdrawals from a Roth IRA
You can withdraw your Roth IRA contributions — that's the money you put in yourself, not the gains on that money — whenever you want, without owing any penalties or taxes, no matter how long your account has been open. That's because the money you put in is money you already paid income tax on.
Read the fine print
In some cases, a certain type of payment might be tax-free while another, very similar one will lead to a tax bill. Here are three instances where you need to take special care.
Some legal settlements are nontaxable, but others are. To determine whether you owe the U.S. Treasury a piece of your court award, consider what the settlement replaces and why it was granted. Proceeds for emotional distress originating from a personal physical injury or physical sickness, for example, typically are tax-free. However, court-awarded punitive damages are taxable, even if the punitive damages were in connection with a settlement for personal physical injuries or sickness.
Social Security is generally tax-free if it's your only source of income. But if you have other income — for example, from a part-time job, a taxable pension or investment earnings — you could owe federal tax at your ordinary income tax rate on up to 85% of your federal government retirement benefits.
Home sale proceeds are tax-free for many, so long as the profit is at or below a certain threshold: $250,000 for a single seller and $500,000 for a married couple filing a joint return. But if you make more than that on the sale, the IRS collects tax on the excess.
» Learn more about capital gains tax on home sales
Remember, too, that in some cases your personal circumstances, such as the amount of other money you make, could have an effect on apparently tax-free situations.
So when you find yourself receiving money you think is tax-free, double-check it. IRS Publication 525 has details on taxable and nontaxable income. A tax professional can help, and good tax software will walk you through all the variables, as well.
