Taxable vs Non Taxable Income

Employee Death Benefits

When an employer makes payments to a deceased employee's family there is a question whether these payments are taxable income or represent a non taxable gift. To be clear the IRS allows these payments to be non taxable provided the following conditions exist:

1. Payments made by employer are paid directly to the surviving family members and not the decedent's estate
2. These payments do not represent compensation for services by the decedent or his/her family members
3. Death benefit payments follow an established company policy for such events

Life Insurace Proceeds

Payments to beneficiaries upon the death of the insured are not taxable. 

Accelarated Death Benefits

Receipt of a cash surrender value of a cancelled life insurance policy is a taxable event if the cash value received exceeds total premiums paid. One exception to this rule is for individuals who are terminally ill. If an individual is expected to die within 24 months the payments received representing the surrended cash value of a cancelled life insurance policy is not taxable to the individual or the beneficiaries

Transferring Life Insurance Policy 

If a policy is transferred to another person or a third party for financial consideration, then the portion of the benefits received upon the insured's death is taxable income. However, Congress created exceptions to this rule which allow death benefits of the transferred policy to be non taxable. These exception include

1. Transfer of the policy from the beneficiery to the insured
2. Transfer to the partner of the insured
3. Transfer to the insured's partnership
4. Transfer to the corporation where the insured is a shareholder
5. Transfer where the recepient's cost basis is calculated by the transferor's cost basis

Scholarships

To be excluded from taxability, scholarships must be for an individual pursuing an educational degree. Scholarship received by an individual, or those given by a non profit educational institution to its employees, their spouse's and dependent children are not taxable income. The non taxable portion covers tuition, books and school supplies. Any scholarship representing payment towards housing, food or transportation is taxable income.

Lawsuit Awards

1. Compensation for bodily injury and medical expenses - not taxable
2. Compensation for emotional distress, reputation injury or discrimination - taxable
3. Punitive damages  - monies received for punishing the party being sued is taxable
4. Breach of contract or loss of income - taxable
5. Property damages received are taxable to the extent the amount exceeds total investment in the property

Worker's compensation for job related injuries are not taxable

Benefits Received From An Accident or Health Insurance Policy

These may or may not be taxable depending on who purchased it. Benefits on a policy purchased by the taxpayer are not taxable. Benefits received from a policy purchased by the employer as reimbursement of medical expenses or for a loss of a body function are not taxable. The rest of benefits received from an employer sponsored health or accident plan are taxable. This would include replacement of lost income under the employer sponsored plan.

Benefits received as reimbursement for medical expenses deducted on prior return are taxable to the extent that they reduced taxable income. So a portion that was deducted must be added to taxable income.

Employer Sponsored Medical Reimbursement Plan

A plan that provides medical coverage for emplyees is not taxable as long as it does not descriminate in favor of certain employees or owners of the company. For example, benefits from a plan covering only highly compensated employees are taxable. 

Employer contributions to Health Savings Account (HSA)

Some employers offer a high deductible health insurance reimbursement plan where they can contribute moneys towards the employees' medical expenses. These contributions are not taxable. The requirement is that the deductible amount is at least $2600. An employer can contribute non taxable amount of up to 1/12 of $3400 per month for a single individual or 1/12 of $6750 for a family coverage. To be excluded from taxability, scholarships must be for an individual pursuing an educational degree. Scholarship received by an individual, or those given by a non profit educational institution to its employees, their spouse's and dependent children are not taxable income. The non taxable portion covers tuition, books and school supplies. Any scholarship received that represents payment towards housing, food or transportation is taxable income.

Lawsuit Awards

Compensation for bodily injury and medical expenses - not taxableCompensation for emotional distress, reputation injury or discrimination - taxablePunitive damages received - monies received for punishing the party being sued is taxableBreach of contract - taxableProperty damages received are taxable to the extent the amount exceeds total investment in the propertyWorker's compensation for job related injuries are not taxable

Benefits received from an Accident or Health Insurance

Proceeds from an accident or health insurance policy may or may not be taxable depending on who purchased it. Benefits on a policy purchased by the taxpayer are not taxable. Benefits received from a policy purchased by the employer as reimbursement of medical expenses or for a loss of a body function are not taxable. The rest of benefits received from an employer sponsored health or accident plan are taxable. This would include replacement of lost income under the employer sponsored plan.

Benefits received as reimbursement for medical expenses deducted on prior return are taxable to the extent that they reduced taxable income. So a portion that was deducted must be added to taxable income.Employer sponsored medical reimbursement plan that provides coverage for emplyees is not taxable as long as it does not descriminate in favor of certain employees or owners of the company. For example, benefits from a plan covering only highly compensated employees are taxable. Employer contributions to Health Savings Account (HSA) - Some employers offer a high deductible health insurance reimbursement plan where they can contribute moneys towards the employees' medical expenses. These contributions are not taxable. The requirement is that the deductible amount is at least $2600. An employer can contribute non taxable amount of up to 1/12 of $3400 per month for a single individual or 1/12 of $6750 for a family coverage. 

Long term care benefits (LTC)

Payments received from a long term care insurance policy are generally not taxable whether the premium was paid by employer or self funded by the individual. The only portion that is taxable is when a LTC benefits paid per diem at a recurring amount exceed the actual medical expense. Any excess over per diem over actual medical costs incurred is taxable.

Meals / Lodging Provided by Employer

Food and lodging accomodations provided by an employer are not taxable provided they satisfy one of the following two requirements:1. Meals and / or lodging paid for by the employer on behalf of an employee must be furnished in (or near) the employer's place of business and for the convenience of the employer 2. For lodging the employee must accept it as a condition of employment. This is common to building super or manager who is required to live in the apartment building he manages. The value of his apartment rent is not taxable income to the individual.Value of housing provided by an educational facility where the employee contributes at least 5% towards the housing costs's FMV (Fair Market Value) is not taxable to the employee. But if the percentage paid by employee is less than 5% of the FMV, the difference of defficiency is taxable income.  Value of housing provided to clergy as compensation of services in relationship to the religious organization's services are not taxable income.

Employer provided fringe benefits ( for employees, spouses, dependents and disabled and retired former employees)

Child or dependent care paid for by the employer - Not taxable up to $5000 annually for married filing jointly or $2500 for married filing separately not to exceed earned income of the spouse with lesser income or for a single taxpayer the amount can not exceed his/her earned income

Athletic facility membership fees and use provided by employer

Gym or sports club membership is not taxable as long as facility is located on the employer's premise. Use by non members of employee's family are taxable. So friends of an employee using a company sponored gym membership is taxable income to the employee. Otherwise the membership is a non taxable fring benefit.Educational assistance provided to employee is not taxable. The non taxable assistance only covers tuition, books and supplies for a graduate or undergraduate degree and only up to the limit of $5250 annualy.

Employer provided adoption

Reimbursement or expenses up to $13570 is not taxable provided it's offered under a company qualified adoption assistance program. Adoption expenses for a child with special needs can be excluded up to the full $13570 amount even if the employee incurred less than that amount. Cafeteria Plan - allows employees to choose between various company sponsored benefit plans. These are not taxable to employees. Typically cafeteria plans include group term life insurance, child care and health insurance.

Cafeteria Plans

Employer plans allowing employees options to chose between cash compensation or receipt of benefits not taxed by the IRS. These benefits include health insurance, choices of non taxable benefitsns to receive non taxable benefits. Employees can choose amont various types of health insurances, like vision, dental, health, hospital, accident, group term life, flexinble spending accounts (FSA's). Most cafateria benefits are offered through a "salary redirection agreement" also called payroll deductions  or pre-tax deductions. These benefits are not considered wages and are exempt from federal income taxes, social security and medicare taxes (FICA). Savings to employers extend to to additonal savings which include, FUTA and workers's compensation insurance. 

To be eligible as non taxable benefit, cafeteria plans can NOT favor key or highly compensation employees. Benefits that discriminate in favor of these employees are reported as taxable wages. 

Flexible Spending Account Plans (FSA)

Employer contributions into this plan are not taxable to employees up to $2600. A tax saving feature, this allows an employee to accept a reduction in salary so the contributions by employer reduce an employee's taxable income. If an employee doesn't use all the money contributed to the plan it reverts back to the employer. An employee has until March 15th of the following year to use up all prior year amounts in the account before it's returned to the employer. 

FSA can NOT be used to pay for Long Term Care insurance premiums. 

Other non taxable employer provided fringe benefits

1. No-Additional-Costs Services - value of services (not property) received by an employee that is not a substantial cost to the employer ( flight provided to airline employees by an airline company on a plane with empty seats)2. Value of services provided to employee do not represent foregone compensation3. Value of services provided are offered to employee in the normal course of doing business in which an individual is employed

Employee Discounts

When employers sell goods or services to their employees at discount, a portion of the discount may or may not be taxable depending on certain criteria.To be non taxable the discount must be given on property or service that is NOT real property or property held for investments. The discount on property or service must be from the same industry or line of business where the employee works. 

For discounts on property the non taxable discount is only up to the gross profit portion of the sales price offered to customers. Any portion discount over the gross profit is taxable income. To figure out taxable portion deduct the gross profit amount from the sales price. Any excess discount over the gross profit is taxable.For discounts on services, an employee can exclude up to 20% of the price charged to customers. Any discount above the 20% is taxable income. 

Working Conditions Fringe Benefits

Employer provided payments or reimbursements to an employee for expenses that the employee could deduct on his/her tax return are not taxable. Examples include reimbursements for professional membership fees. For example, if a law firm reimburses its attorney for state bar fees, those would be considered not taxable income. These types of benefits can be disriminatory (meaning an employer can choose who gets the reimbursement) to qualify for the taxability exclusion. 

Deminimis fringe benefits

Monetary benefis that are small in value are not taxable income. Some examples include use of company cell phones, supplies, faxing, postage, etc.

Transportation fringe benefits

Employer contributions or reimbursements for costs associated with transportation and commuting to work and parking near the work site is not taxable. Total untaxed benefit is capped at $255/ month for all forms of transportation except bycicle. That is capped at $20/month. 

Group term life insurance

Employer paid premiums for group term life policy up to $50,000 is not taxable income

Achievement awards

Cash or property awards are not taxable up to $400 if the company doesn't have a qualified award plan. In companies with qualified award plans employees can exclude up to $1600 from income. To be non taxable the plan can not favor highly compensated employees. 

Foreign earned income

US citizens can exclude up to $102,000 of foreign earned income while living in that country. To qualify the individual must be a resident of the foreign county or have lived there for at least 330 days during any 12 consecutive months. For individuals who lived in a foreign country for less than 330 days the exclusion is calculated by dividing number of days lived in the county by 330 and multiplying by the income earned, up to $102,000.

Corporate distributions

Payments made to shareholders from the company's current or accumulated earnings / profits are considered taxable dividends. Distributions in excess of profits reported as non taxable capital recovery, which reduces shareholder's basis in the company. Once the entire basis is recovered (reduced to zero) any additional distributions are taxed as capital gains. 

Stock dividends Distributions of stock dividends is not considered realized income. As a result, stock dividends are not taxable. 

!  However, if the shareholder had been offered a choice of cash or stock dividend than he must report this as taxable income, regardless whether recept was in cash or stock. If the individual chose stock, his taxable income is based on the value of the stock. 

Educational Series EE Bonds Interest

Interest on these bonds is non taxable up to the phaseout amount based on MAGI (Modified Adjusted Gross Income) . If redeemed amount exceeds tuition, only pro rated portion is excluded. Excess is taxable.

Interest on Qualified Educational Plans

Interest earned on( 529 Qualified Tuition Program and 530 Coverdell Educational Savings Acct. is not taxable provided interest is used for qualified educational expenses such as tuition, books, room and board, school equipment, etc. 

! Contributions to Qualified Educational Plans are Not tax deductible.   

Relief from Indebtness or Discharge from Loans

When a debtor relieves an individual from debt, the cancelled portion of the debt must be realized as taxable income. Foreclosure on property.

• When a property serves as a security for the debt is foreclosed, this is considred a taxable sales. (Non recourse debt) Here taxable income is calculated by subtracting a debtor's basis in the property from the balance of debt.
• A property where an individual is personally liable becomes foreclosed, this triggers two events: a sale and a relief from indebtenss. (Recourse debt). To figure out taxable income on a recourse debt include the following factors: 1. FMV of the property at the time of the foreclosure, 2. Debtor's basis in the property, 3. Balance owed on the debt. To figure out the Taxable income:

1. Deduct debtor's basis from FMV at the time of foreclosure. This is your taxable capital gain (considered a taxable sale)
2. Deduct FMV of property at time of foreclosure from balance of debt. This is your relief from debt and it's reported as taxable income
3. Both will be reported on an individual's personal return