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Economic recovery payment. Any economic recovery payment you received is not taxable for federal income tax purposes. See the discussion under Other Income.
Differential wage payments. Payments made by an employer to an individual for any period during which the individual is an active duty member of the uniformed services are treated as wages. See the discussion under Miscellaneous Compensation.
Bicycle commuters. The qualified employer transportation fringe benefit is expanded to include any qualified bicycle commuting reimbursement. See Transportation under Fringe Benefits.
Transportation fringe benefits increased. Beginning January 1, 2009, the exclusion for commuter vehicle transportation and transit pass fringe benefits cannot be more than a total of $120 per month. Beginning March 1, 2009, the amount of the exclusion increased to $230 a month. See Transportation under Fringe Benefits.
Nonqualified deferred compensation plans of nonqualified entities. Generally, for services performed after 2008, any compensation deferred under a nonqualified deferred compensation plan of a nonqualified entity is included in gross income when there is no substantial risk of forfeiture of the rights to such compensation. For this purpose, a nonqualified entity is:
Cash for clunkers. If you received a voucher to be applied toward the purchase of a qualified new vehicle in exchange for the trade in of an eligible used vehicle, the amount of the voucher is not taxable for federal income tax purposes. See the discussion under Other Income.
Unemployment compensation. For 2009, you do not have to pay tax on the first $2,400 of unemployment compensation per recipient. See Unemployment Benefits.
Home Affordable Modification Program (HAMP). If you benefit from Pay-for-Performance Success Payments under HAMP, the payments are not taxable.
Roth IRAs. Half of any income that results from a rollover or conversion to a Roth IRA from another retirement plan in 2010 is included in income in 2011, and the other half in 2012, unless you elect to include all of it in 2010.
Exclusions from income. The following exclusions from income are scheduled to expire and will not be available in 2010:
Terrorist attacks. You can exclude from income certain disaster assistance, disability, and death payments received as a result of a terrorist or military action. For more information, see Publication 3920, Tax Relief for Victims of Terrorist Attacks.
Astronauts. You also can exclude death payments for astronauts dying in the line of duty after 2002.
Qualified settlement income. If you are a qualified taxpayer, you can contribute all or part of your qualified settlement income, up to $100,000, to an eligible retirement plan, including an IRA. Contributions to eligible retirement plans other than a Roth IRA or a designated Roth contribution, reduce the qualified settlement income that you must include in income. See Exxon Valdez settlement income under Other Income.
Foreign income. If you are a U.S. citizen or resident alien, you must report income from sources outside the United States (foreign income) on your tax return unless it is exempt by U.S. law. This is true whether you reside inside or outside the United States and whether or not you receive a Form W-2, Wage and Tax Statement, or Form 1099 from the foreign payer. This applies to earned income (such as wages and tips) as well as unearned income (such as interest, dividends, capital gains, pensions, rents, and royalties). If you reside outside the United States, you may be able to exclude part or all of your foreign source earned income. For details, see Publication 54, Tax Guide for U.S. Citizens and Resident Aliens Abroad.
Disaster mitigation payments. You can exclude from income grants you use to mitigate (reduce the severity of) potential damage from future natural disasters that are paid to you through state and local governments. For more information, see Disaster mitigation payments under Welfare and Other Public Assistance Benefits.
Nonqualified deferred compensation plans. Generally, all amounts deferred under a nonqualified deferred compensation plan for all tax years are included in gross income for the current year, unless certain requirements are met. See Nonqualified deferred compensation plans under Employee Compensation.
Health Savings Account (HSA). You can fund your HSA with a one-time direct transfer from your individual retirement plan, health reimbursement account, or health flexible spending account and exclude the amount of the transfer from income. However, you must include the amount transferred in your income, as well as pay a 10% additional tax, if you do not remain an eligible individual for at least 12 months after the month of the transfer. See Accident or Health Plan under Fringe Benefits.
Qualified joint venture. A qualified joint venture conducted by you and your spouse may not be treated as a partnership if you file a joint return for the tax year. See Partnership Income.
You can receive income in the form of money, property, or services. This publication discusses many kinds of income and explains whether they are taxable or nontaxable. It includes discussions on employee wages and fringe benefits, and income from bartering, partnerships, S corporations, and royalties. It also includes information on disability pensions, life insurance proceeds, and welfare and other public assistance benefits. Check the index for the location of a specific subject.
Generally, an amount included in your income is taxable unless it is specifically exempted by law. Income that is taxable must be reported on your return and is subject to tax. Income that is nontaxable may have to be shown on your tax return but is not taxable.
You are generally taxed on income that is available to you, regardless of whether it is actually in your possession. A valid check that you received or that was made available to you before the end of the tax year is considered income constructively received in that year, even if you do not cash the check or deposit it to your account until the next year. For example, if the postal service tries to deliver a check to you on the last day of the tax year but you are not at home to receive it, you must include the amount in your income for that tax year. If the check was mailed so that it could not possibly reach you until after the end of the tax year, and you otherwise could not get the funds before the end of the year, you include the amount in your income for the next tax year.
Income received by an agent for you is income you constructively received in the year the agent received it. If you agree by contract that a third party is to receive income for you, you must include the amount in your income when the third party receives it.
You and your employer agree that part of your salary is to be paid directly to your former spouse. You must include that amount in your income when your former spouse receives it.
Prepaid income, such as compensation for future services, generally is included in your income in the year you receive it. However, if you use an accrual method of accounting, you can defer prepaid income you receive for services to be performed before the end of the next tax year. In this case, you include the payment in your income as you earn it by performing the services.
See How To Get Tax Help, near the end of this publication, for information about getting these publications.
Generally, you must include in gross income everything you receive in payment for personal services. In addition to wages, salaries, commissions, fees, and tips, this includes other forms of compensation such as fringe benefits and stock options.
You should receive a Form W-2, Wage and Tax Statement, from your employer showing the pay you received for your services. Include your pay on line 7 of Form 1040 or Form 1040A or on line 1 of Form 1040EZ, even if you do not receive a Form W-2.
If you performed services, other than as an independent contractor, and your employer did not withhold social security and Medicare taxes from your pay, you must file Form 8919, Uncollected Social Security and Medicare Tax on Wages, with your Form 1040. These wages must be included on line 7 of Form 1040. See Form 8919 for more information.
If you babysit for relatives or neighborhood children, whether on a regular basis or only periodically, the rules for childcare providers apply to you.
This section discusses many types of employee compensation. The subjects are arranged in alphabetical order.
If you receive tangible personal property (other than cash, a gift certificate, or an equivalent item) as an award for length of service or safety achievement, you generally can exclude its value from your income. However, the amount you can exclude is limited to your employer's cost and cannot be more than $1,600 ($400 for awards that are not qualified plan awards) for all such awards you receive during the year. Your employer can tell you whether your award is a qualified plan award. Your employer must make the award as part of a meaningful presentation, under conditions and circumstances that do not create a significant likelihood of it being disguised pay. However, the exclusion does not apply to the following awards.
Ben Green received three employee achievement awards during the year: a nonqualified plan award of a watch valued at $250, and two qualified plan awards of a stereo valued at $1,000 and a set of golf clubs valued at $500. Assuming that the requirements for qualified plan awards are otherwise satisfied, each award by itself would be excluded from income. However, because the $1,750 total value of the awards is more than $1,600, Ben must include $150 ($1,750 − $1,600) in his income.
If your employer gives you a secured note as payment for your services, you must include the fair market value (usually the discount value) of the note in your income for the year you receive it. When you later receive payments on the note, a proportionate part of each payment is the recovery of the fair market value that you previously included in your income. Do not include that part again in your income. Include the rest of the payment in your income in the year of payment. If your employer gives you a nonnegotiable unsecured note as payment for your services, payments on the note that are credited toward the principal amount of the note are compensation income when you receive them.
You must include in income amounts you receive as severance pay and any payment for the cancellation of your employment contract.
Pay you receive from your employer while you are sick or injured is part of your salary or wages. In addition, you must include in your income sick pay benefits received from any of the following payers.
However, if you paid the premiums on an accident or health insurance policy, the benefits you receive under the policy are not taxable. For more information, see Other Sickness and Injury Benefits under Sickness and Injury Benefits, later.
If you and your employer have an agreement that your employer pays your social security and Medicare taxes without deducting them from your gross wages, you must report the amount of tax paid for you as taxable wages on your tax return. The payment is also treated as wages for figuring your social security and Medicare taxes and your social security and Medicare benefits. However, these payments are not treated as social security and Medicare wages if you are a household worker or a farm worker.
Do not include a stock appreciation right granted by your employer in income until you exercise (use) the right. When you use the right, you are entitled to a cash payment equal to the fair market value of the corporation's stock on the date of use minus the fair market value on the date the right was granted. You include the cash payment in income in the year you use the right.
Fringe benefits received in connection with the performance of your services are included in your income as compensation unless you pay fair market value for them or they are specifically excluded by law. Abstaining from the performance of services (for example, under a covenant not to compete) is treated as the performance of services for purposes of these rules.
See Valuation of Fringe Benefits, later in this discussion, for information on how to determine the amount to include in income.
You are the recipient of a fringe benefit if you perform the services for which the fringe benefit is provided. You are considered to be the recipient even if it is given to another person, such as a member of your family. An example is a car your employer gives to your spouse for services you perform. The car is considered to have been provided to you and not to your spouse. You do not have to be an employee of the provider to be a recipient of a fringe benefit. If you are a partner, director, or independent contractor, you also can be the recipient of a fringe benefit.
Your employer or another person for whom you perform services is the provider of a fringe benefit regardless of whether that person actually provides the fringe benefit to you. The provider can be a client or customer of an independent contractor.
You must use the same accounting period your employer uses to report your taxable noncash fringe benefits. Your employer has the option to report taxable noncash fringe benefits by using either of the following rules.
Your employer does not have to use the same accounting period for each fringe benefit, but must use the same period for all employees who receive a particular benefit. You must use the same accounting period that you use to report the benefit to claim an employee business deduction (for use of a car, for example).
Generally, the value of accident or health plan coverage provided to you by your employer is not included in your income. Benefits you receive from the plan may be taxable, as explained, later, under Sickness and Injury Benefits.
For information on the items covered in this section, other than Long-term care coverage, see Publication 969, Health Savings Accounts and Other Tax-Favored Health Plans.
If your employer provides a health FSA that qualifies as an accident or health plan, the amount of your salary reduction, and reimbursements of your medical care expenses and those of your spouse and dependents, generally are not included in your income.
If your employer provides an HRA that qualifies as an accident or health plan, coverage and reimbursements of your medical care expenses and those of your spouse and dependents generally are not included in your income.
If your HSA received qualified HSA distributions from a health FSA or HRA (discussed earlier) or a qualified HSA funding distribution, you must be an eligible individual for HSA purposes for the period beginning with the month in which the qualified distribution was made and ending on the last day of the 12th month following that month. If you fail to be an eligible individual during this period, other than because of death or disability, you must include the distribution in your income for the tax year in which you become ineligible. This income is also subject to an additional 10% tax.
You may be able to exclude from your income amounts paid or expenses incurred by your employer for qualified adoption expenses in connection with your adoption of an eligible child. See Instructions for Form 8839, Qualified Adoption Expenses, for more information.
Adoption benefits are reported by your employer in box 12 of Form W-2 with code T. They also are included as social security and Medicare wages in boxes 3 and 5. However, they are not included as wages in box 1. To determine the taxable and nontaxable amounts, you must complete Part III of Form 8839. File the form with your return.
If your employer provides you with the free or low-cost use of an employer-operated gym or other athletic club on your employer's premises, the value is not included in your compensation. The gym must be used primarily by employees, their spouses, and their dependent children.
If your employer pays for a fitness program provided to you at an off-site resort hotel or athletic club, the value of the program is included in your compensation.
If your employer provides you with a product or service and the cost of it is so small that it would be unreasonable for the employer to account for it, the value is not included in your income. Generally, the value of benefits such as discounts at company cafeterias, cab fares home when working overtime, and company picnics are not included in your income. Also see Employee Discounts, later.
If your employer gives you a turkey, ham, or other item of nominal value at Christmas or other holidays, do not include the value of the gift in your income. However, if your employer gives you cash, a gift certificate, or a similar item that you easily can exchange for cash, you include the value of that gift as extra salary or wages regardless of the amount involved.
If your employer provides dependent care benefits under a qualified plan, you may be able to exclude these benefits from your income. Dependent care benefits include:
The amount you can exclude is limited to the lesser of:
Your employer must show the total amount of dependent care benefits provided to you during the year under a qualified plan in box 10 of your Form W-2. Your employer also will include any dependent care benefits over $5,000 in your wages shown in box 1 of your Form W-2.
To claim the exclusion, you must complete Part III of Form 2441, Child and Dependent Care Expenses. See the instructions for Form 2441 for more information.
You can exclude from your income up to $5,250 of qualified employer-provided educational assistance. For more information, see Publication 970.
If your employer sells you property or services at a discount, you may be able to exclude the amount of the discount from your income. The exclusion applies to discounts on property or services offered to customers in the ordinary course of the line of business in which you work. However, it does not apply to discounts on real property or property commonly held for investment (such as stocks or bonds).
The exclusion is limited to the price charged nonemployee customers multiplied by the following percentage.
Financial counseling fees paid for you by your employer are included in your income and must be reported as part of wages. If the fees are for tax or investment counseling, they can be deducted on Schedule A (Form 1040) as a miscellaneous deduction (subject to the 2%-of-AGI limit).
Qualified retirement planning services paid for you by your employer may be excluded from your income. For more information, see Retirement Planning Services, later.
Generally, the cost of up to $50,000 of group-term life insurance coverage provided to you by your employer (or former employer) is not included in your income. However, you must include in income the cost of employer-provided insurance that is more than the cost of $50,000 of coverage reduced by any amount you pay toward the purchase of the insurance.
For exceptions to this rule, see Entire cost excluded, and Entire cost taxed, later.
If your employer provided more than $50,000 of coverage, the amount included in your income is reported as part of your wages in box 1 of your Form W-2. Also, it is shown separately in box 12 with code C.
This insurance is term life insurance protection (insurance for a fixed period of time) that:
If your group-term life insurance policy includes permanent benefits, such as a paid-up or cash surrender value, you must include in your income, as wages, the cost of the permanent benefits minus the amount you pay for them. Your employer should be able to tell you the amount to include in your income.
Insurance that provides accidental or other death benefits but does not provide general death benefits (travel insurance, for example) is not group-term life insurance.
Your exclusion for employer-provided group-term life insurance coverage cannot exceed the cost of $50,000 of coverage, whether the insurance is provided by a single employer or multiple employers. If two or more employers provide insurance coverage that totals more than $50,000, the amounts reported as wages on your Forms W-2 will not be correct. You must figure how much to include in your income. Reduce the amount you figure by any amount reported with code C in box 12 of your Forms W-2, add the result to the wages reported in box 1, and report the total on your return.
Use the following worksheet to figure the amount to include in your income. If you pay any part of the cost of the insurance, your entire payment reduces, dollar for dollar, the amount you otherwise would include in your income. However, you cannot reduce the amount to include in your income by:
| 1. | Enter the total amount of your insurance coverage from your employer(s) | 1. | |||
| 2. | Limit on exclusion for employer-provided group-term life insurance coverage | 2. | 50,000 | ||
| 3. | Subtract line 2 from line 1 | 3. | |||
| 4. | Divide line 3 by $1,000. Figure to the nearest tenth | 4. | |||
| 5. | Go to Table 1. Using your age on the last day of the tax year, find your age group in the left column, and enter the cost from the column on the right for your age group | 5. | |||
| 6. | Multiply line 4 by line 5 | 6. | |||
| 7. | Enter the number of full months of coverage at this cost | 7. | |||
| 8. | Multiply line 6 by line 7 | 8. | |||
| 9. | Enter the premiums you paid per month | 9. | |||
| 10. | Enter the number of months you paid the premiums | 10. | |||
| 11. | Multiply line 9 by line 10. | 11. | |||
| 12. | Subtract line 11 from line 8. Include this amount in your income as wages | 12. |
| Age | Cost | ||
| Under 25 | $ .05 | ||
| 25 through 29 | .06 | ||
| 30 through 34 | .08 | ||
| 35 through 39 | .09 | ||
| 40 through 44 | .10 | ||
| 45 through 49 | .15 | ||
| 50 through 54 | .23 | ||
| 55 through 59 | .43 | ||
| 60 through 64 | .66 | ||
| 65 through 69 | 1.27 | ||
| 70 and older | 2.06 |
You are 51 years old and work for employers A and B. Both employers provide group-term life insurance coverage for you for the entire year. Your coverage is $35,000 with employer A and $45,000 with employer B. You pay premiums of $4.15 a month under the employer B group plan. You figure the amount to include in your income as follows.
| 1. | Enter the total amount of your insurance coverage from your employer(s) | 1. | 80,000 | ||
| 2. | Limit on exclusion for employer-provided group-term life insurance coverage | 2. | 50,000 | ||
| 3. | Subtract line 2 from line 1 | 3. | 30,000 | ||
| 4. | Divide line 3 by $1,000. Figure to the nearest tenth | 4. | 30.0 | ||
| 5. | Go to Table 1. Using your age on the last day of the tax year, find your age group in the left column, and enter the cost from the column on the right for your age group | 5. | .23 | ||
| 6. | Multiply line 4 by line 5 | 6. | 6.90 | ||
| 7. | Enter the number of full months of coverage at this cost. | 7. | 12 | ||
| 8. | Multiply line 6 by line 7 | 8. | 82.80 | ||
| 9. | Enter the premiums you paid per month | 9. | 4.15 | ||
| 10. | Enter the number of months you paid the premiums | 10. | 12 | ||
| 11. | Multiply line 9 by line 10. | 11. | 49.80 | ||
| 12. | Subtract line 11 from line 8. Include this amount in your income as wages | 12. | 33.00 |
The total amount to include in income for the cost of excess group-term life insurance is $33. Neither employer provided over $50,000 insurance coverage, so the wages shown on your Forms W-2 do not include any part of that $33. You must add it to the wages shown on your Forms W-2 and include the total on your return.
You are not taxed on the cost of group-term life insurance if any of the following circumstances apply.
You are taxed on the entire cost of group-term life insurance if either of the following circumstances apply.
You do not include in your income the value of meals and lodging provided to you and your family by your employer at no charge if the following conditions are met.
You also do not include in your income the value of meals or meal money that qualifies as a de minimis fringe benefit. See De Minimis (Minimal) Benefits, earlier.
If you are an employee of an educational institution or an academic health center and you are provided with lodging that does not meet the three conditions above, you still may not have to include the value of the lodging in income. However, the lodging must be qualified campus lodging, and you must pay an adequate rent.
This is an organization that meets the following conditions.
Qualified campus lodging is lodging furnished to you, your spouse, or one of your dependents by, or on behalf of, the institution or center for use as a home. The lodging must be located on or near a campus of the educational institution or academic health center.
The amount of rent you pay for the year for qualified campus lodging is considered adequate if it is at least equal to the lesser of:
Carl Johnson, a sociology professor for State University, rents a home from the university that is qualified campus lodging. The house is appraised at $200,000. The average rent paid for comparable university lodging by persons other than employees or students is $14,000 a year. Carl pays an annual rent of $11,000. Carl does not include in his income any rental value because the rent he pays equals at least 5% of the appraised value of the house (5% × $200,000 = $10,000). If Carl paid annual rent of only $8,000, he would have to include $2,000 in his income ($10,000 − $8,000).
Generally, if your employer pays for your moving expenses (either directly or indirectly) and the expenses would have been deductible if you paid them yourself, the value is not included in your income. See Publication 521, for more information.
The value of services you receive from your employer for free, at cost, or for a reduced price is not included in your income if your employer:
Generally, no-additional-cost services are excess capacity services, such as airline, bus, or train tickets, hotel rooms, and telephone services.
You are employed as a flight attendant for a company that owns both an airline and a hotel chain. Your employer allows you to take personal flights (if there is an unoccupied seat) and stay in any one of their hotels (if there is an unoccupied room) at no cost to you. The value of the personal flight is not included in your income. However, the value of the hotel room is included in your income because you do not work in the hotel business.
If your employer has a qualified retirement plan, qualified retirement planning services provided to you (and your spouse) by your employer are not included in your income. Qualified services include retirement planning advice, information about your employer's retirement plan, and information about how the plan may fit into your overall individual retirement income plan. You cannot exclude the value of any tax preparation, accounting, legal, or brokerage services provided by your employer. Also, see Financial Counseling Fees, earlier.
If your employer provides you with a qualified transportation fringe benefit, it can be excluded from your income, up to certain limits. A qualified transportation fringe benefit is:
Cash reimbursement by your employer for these expenses under a bona fide reimbursement arrangement is also excludable. However, cash reimbursement for a transit pass is excludable only if a voucher or similar item that can be exchanged only for a transit pass is not readily available for direct distribution to you.
The exclusion for commuter vehicle transportation and transit pass fringe benefits cannot be more than a total of $120 a month. However, beginning March 1, 2009, the amount of the exclusion was increased to $230 a month. The exclusion for the qualified parking fringe benefit cannot be more than $230 a month. The exclusion for qualified bicycle commuting in a calendar year is $20 multiplied by the number of qualified bicycle commuting months that year. If the benefits have a value that is more than these limits, the excess must be included in your income. You are not entitled to these exclusions if the reimbursements are made under a compensation reduction agreement.
This is a highway vehicle that seats at least six adults (not including the driver). At least 80% of the vehicle's mileage must reasonably be expected to be:
This is any pass, token, farecard, voucher, or similar item entitling a person to ride mass transit (whether public or private) free or at a reduced rate or to ride in a commuter highway vehicle operated by a person in the business of transporting persons for compensation.
This is parking provided to an employee at or near the employer's place of business. It also includes parking provided on or near a location from which the employee commutes to work by mass transit, in a commuter highway vehicle, or by carpool. It does not include parking at or near the employee's home.
This is reimbursement based on the number of qualified bicycle commuting months for the year. A qualified bicycle commuting month is any month you use the bicycle regularly for a substantial portion of the travel between your home and place of employment and you do not receive any of the other qualified transportation fringe benefits. The reimbursement can be for expenses you incurred during the year for the purchase of a bicycle and bicycle improvements, repair, and storage.
You can exclude a qualified tuition reduction from your income. This is the amount of a reduction in tuition:
For more information, see Publication 970.
If your employer provides you with a product or service and the cost of it would have been allowable as a business or depreciation deduction if you paid for it yourself, the cost is not included in your income.
You work as an engineer and your employer provides you with a subscription to an engineering trade magazine. The cost of the subscription is not included in your income because the cost would have been allowable to you as a business deduction if you had paid for the subscription yourself.
If a fringe benefit is included in your income, the amount included is generally its value determined under the general valuation rule or under the special valuation rules. For an exception, see Group-Term Life Insurance, earlier.
You must include in your income the amount by which the fair market value of the fringe benefit is more than the sum of:
If you pay fair market value for a fringe benefit, no amount is included in your income.
The fair market value of a fringe benefit is determined by all the facts and circumstances. It is the amount you would have to pay a third party to buy or lease the benefit. This is determined without regard to:
If your employer provides a car (or other highway motor vehicle) to you, your personal use of the car is usually a taxable noncash fringe benefit. Under the general valuation rules, the value of an employer-provided vehicle is the amount you would have to pay a third party to lease the same or a similar vehicle on the same or comparable terms in the same geographic area where you use the vehicle. An example of a comparable lease term is the amount of time the vehicle is available for your use, such as a 1-year period. The value cannot be determined by multiplying a cents-per-mile rate times the number of miles driven unless you prove the vehicle could have been leased on a cents-per-mile basis.
Under the general valuation rules, if your flight on an employer-provided piloted aircraft is primarily personal and you control the use of the aircraft for the flight, the value is the amount it would cost to charter the flight from a third party. If there is more than one employee on the flight, the cost to charter the aircraft must be divided among those employees. The division must be based on all the facts, including which employee or employees control the use of the aircraft.
You generally can use a special valuation rule for a fringe benefit only if your employer uses the rule. If your employer uses a special valuation rule, you cannot use a different special rule to value that benefit. You always can use the general valuation rule discussed earlier, based on facts and circumstances, even if your employer uses a special rule. If you and your employer use a special valuation rule, you must include in your income the amount your employer determines under the special rule minus the sum of:
Your employer's contributions to a qualified retirement plan for you are not included in income at the time contributed. (Your employer can tell you whether your retirement plan is qualified.) However, the cost of life insurance coverage included in the plan may have to be included. See Group-Term Life Insurance, earlier, under Fringe Benefits.
If your employer pays into a nonqualified plan for you, you generally must include the contributions in your income as wages for the tax year in which the contributions are made. However, if your interest in the plan is not transferable or is subject to a substantial risk of forfeiture (you have a good chance of losing it) at the time of the contribution, you do not have to include the value of your interest in your income until it is transferable or is no longer subject to a substantial risk of forfeiture.
For information on distributions from retirement plans, see Publication 575 (or Publication 721, Tax Guide to U.S. Civil Service Retirement Benefits, if you are a federal employee or retiree).If you are covered by certain kinds of retirement plans, you can choose to have part of your compensation contributed by your employer to a retirement fund, rather than have it paid to you. The amount you set aside (called an elective deferral) is treated as an employer contribution to a qualified plan. An elective deferral, other than a designated Roth contribution (discussed later), is not included in wages subject to income tax at the time contributed. However, it is included in wages subject to social security and Medicare taxes.
Elective deferrals include elective contributions to the following retirement plans.
Under a qualified automatic contribution arrangement, your employer can treat you as having elected to have a part of your compensation contributed to a section 401(k) plan. Before each plan year, your employer must give you a written notice of your rights under the arrangement. You can elect to change the amount of the contributions or elect out of the arrangement.
For 2009, you generally should not have deferred more than a total of $16,500 of contributions to the plans listed in (1) through (3) above. The specific plan limits for the plans listed in (4) through (7) above are discussed later. Your employer or plan administrator should apply the proper annual limit when figuring your plan contributions. However, you are responsible for monitoring the total you defer to ensure that the deferrals are not more than the overall limit.
If you are a participant in a SIMPLE plan, you generally should not have deferred more than $11,500 in 2009. Amounts you defer under a SIMPLE plan count toward the overall limit ($16,500 for 2009) and may affect the amount you can defer under other elective deferral plans.
If you are a participant in a tax-sheltered annuity plan (403(b) plan), the limit on elective deferrals for 2009 generally is $16,500. However, if you have at least 15 years of service with a public school system, a hospital, a home health service agency, a health and welfare service agency, a church, or a convention or association of churches (or associated organization), the limit on elective deferrals is increased by the least of the following amounts.
If you are a participant in a section 501(c)(18) plan (a trust created before June 25, 1959, funded only by employee contributions), you should have deferred no more than the lesser of $7,000 or 25% of your compensation.
If you are a participant in a section 457 plan (a deferred compensation plan for employees of state or local governments or tax-exempt organizations), you should have deferred no more than the lesser of your includible compensation or $16,500. However, if you are within 3 years of normal retirement age, you may be allowed an increased limit if the plan allows it. See Increased limit, later.
This is the pay you received for the year from the employer who maintained the section 457 plan. It generally includes all the following payments.
During any, or all, of the last 3 years ending before you reach normal retirement age under the plan, your plan may provide that your limit is the lesser of:
You generally can have additional elective deferrals made to your governmental section 457 plan if:
If you qualify, your limit can be the lesser of your includible compensation or $16,500, plus $5,500. However, if you are within 3 years of retirement age and your plan provides the increased limit, discussed earlier, that limit may be higher.
Employers with section 401(k) and section 403(b) plans can create qualified Roth contribution programs so that you may elect to have part or all of your elective deferrals to the plan designated as after-tax Roth contributions. Designated Roth contributions are treated as elective deferrals, except that they are included in income. Your retirement plan must maintain separate accounts and recordkeeping for the designated Roth contributions. Qualified distributions from a Roth plan are not included in income. Generally, a distribution made before the end of the 5-tax-year period beginning with the first tax year for which you made a designated Roth contribution to the plan is not a qualified distribution.
If you do not take out the excess amount, you cannot include it in the cost of the contract even though you included it in your income. Therefore, you are taxed twice on the excess deferral left in the plan—once when you contribute it, and again when you receive it as a distribution.
If you are a highly compensated employee, the total of your elective deferrals and other contributions made for you for any year under a section 401(k) plan or SARSEP can be, as a percentage of pay, no more than 125% of the average deferral percentage (ADP) of all eligible non-highly compensated employees.
If the total contributed to the plan is more than the amount allowed under the ADP test, the excess contributions must be either distributed to you or recharacterized as after-tax employee contributions by treating them as distributed to you and then contributed by you to the plan. You must include the excess contributions in your income as wages on Form 1040, line 7. You cannot use Form 1040A or Form 1040EZ to report excess contribution amounts.
If you receive a corrective distribution of excess contributions (and allocable income), it is included in your income in the year of the distribution. The allocable income is the amount of gain or loss through the end of the plan year for which the contribution was made that is allocable to the excess contributions. You should receive a Form 1099-R for the year the excess contributions are distributed to you. Add the distribution to your wages for that year.
Even though a corrective distribution of excess contributions is reported on Form 1099-R, it is not otherwise treated as a distribution from the plan. It cannot be rolled over into another plan, and it is not subject to the additional tax on early distributions.The amount contributed in 2009 to a defined contribution plan is generally limited to the lesser of 100% of your compensation or $49,000. Under certain circumstances, contributions that exceed these limits (excess annual additions) may be corrected by a distribution of your elective deferrals or a return of your after-tax contributions and earnings from these contributions.
A corrective payment of excess annual additions consisting of elective deferrals or earnings from your after-tax contributions is fully taxable in the year paid. A corrective payment consisting of your after-tax contributions is not taxable.
If you received a corrective payment of excess annual additions, you should receive a separate Form 1099-R for the year of the payment with the code “E” in box 7. Report the total payment shown in box 1 of Form 1099-R on line 16a of Form 1040 or line 12a of Form 1040A. Report the taxable amount shown in box 2a of Form 1099-R on line 16b of Form 1040 or line 12b of Form 1040A.
Even though a corrective distribution of excess annual additions is reported on Form 1099-R, it is not otherwise treated as a distribution from the plan. It cannot be rolled over into another plan, and it is not subject to the additional tax on early distributions.If you receive an option to buy or sell stock or other property as payment for your services, you may have income when you receive the option (the grant), when you exercise the option (use it to buy or sell the stock or other property), or when you sell or otherwise dispose of the option or property acquired through exercise of the option. The timing, type, and amount of income inclusion depend on whether you receive a nonstatutory stock option or a statutory stock option. Your employer can tell you which kind of option you hold.
If you are granted a nonstatutory stock option, you may have income when you receive the option. The amount of income to include and the time to include it depend on whether the fair market value of the option can be readily determined. The fair market value of an option can be readily determined if it is actively traded on an established market. The fair market value of an option that is not traded on an established market can be readily determined only if all of the following conditions exist.
The option privilege for an option to buy is the opportunity to benefit during the option's exercise period from any increase in the value of property subject to the option without risking any capital. For example, if during the exercise period the fair market value of stock subject to an option is greater than the option's exercise price, a profit may be realized by exercising the option and immediately selling the stock at its higher value. The option privilege for an option to sell is the opportunity to benefit during the exercise period from a decrease in the value of the property subject to the option. If you or a member of your family is an officer, director, or more-than-10% owner of an expatriated corporation, you may owe an excise tax on the value of nonstatutory options and other stock-based compensation from that corporation. For more information on the excise tax, see Internal Revenue Code section 4985.
If you receive a nonstatutory stock option that has a readily determinable fair market value at the time it is granted to you, the option is treated like other property received as compensation. See Restricted Property, later, for rules on how much income to include and when to include it. However, the rule described in that discussion for choosing to include the value of property in your income for the year of the transfer does not apply to a nonstatutory option.
If the fair market value of the option is not readily determinable at the time it is granted to you (even if it is determined later), you do not have income until you exercise or transfer the option.
When you exercise a nonstatutory stock option, the amount to include in your income depends on whether the option had a readily determinable value.
When you exercise a nonstatutory stock option that had a readily determinable value at the time the option was granted, you do not have to include any amount in income.
When you exercise a nonstatutory stock option that did not have a readily determinable value at the time the option was granted, the restricted property rules apply to the property received. The amount to include in your income is the difference between the amount you pay for the property and its fair market value when it becomes substantially vested. If it is not substantially vested at the time you exercise this nonstatutory stock option (so that you may have to give the stock back), you do not have to include any amount in income. You include the difference in income when the option becomes substantially vested. For more information on restricted property, see Restricted Property, later.
If you transfer a nonstatutory stock option without a readily determinable value in an arm's-length transaction to an unrelated person, you must include in your income the money or other property you received for the transfer, as if you had exercised the option.
If you transfer a nonstatutory stock option without a readily determinable value in a non-arm's-length transaction (for example, a gift), the option is not treated as exercised or closed at that time. You must include in your income, as compensation, any money or property received. When the transferee exercises the option, you must include in your income, as compensation, the excess of the fair market value of the stock acquired by the transferee over the sum of the exercise price paid and any amount you included in income at the time you transferred the option. At the time of the exercise, the transferee recognizes no income and has a basis in the stock acquired equal to the fair market value of the stock. Any transfer of this kind of option to a related person is treated as a non-arm's-length transaction. See Regulations section 1.83-7 for the definition of a related person.
If you are an employee, and you issue a recourse note to your employer in satisfaction of the exercise price of an option to acquire your employer's stock, and your employer and you subsequently agree to reduce the stated principal amount of the note, you generally recognize compensation income at the time and in the amount of the reduction.
There are two kinds of statutory stock options.
For either kind of option, you must be an employee of the company granting the option, or a related company, at all times during the period beginning on the date the option is granted and ending 3 months before the date you exercise the option (for an incentive stock option, 1 year before if you are disabled). Also, the option must be nontransferable except at death.
If you do not meet the employment requirements, or you receive a transferable option, your option is a nonstatutory stock option.
If you receive a statutory stock option, do not include any amount in your income when the option is granted.
If you exercise a statutory stock option, do not include any amount in income when you exercise the option.
Your employer, M Company, granted you an incentive stock option on April 6, 2007, to buy 100 shares of M Company at $9 a share, its fair market value at the time. You exercised the option on January 9, 2008, when the stock was selling on the open market for $14 a share. On January 26, 2009, when the stock was selling on the open market for $16 a share, your rights to the stock first became transferable. You include $700 ($1,600 value when your rights first became transferable minus $900 option price) as an adjustment on Form 6251, line 15.
You satisfy the holding period requirement if you do not sell the stock until the end of the later of the 1-year period after the stock was transferred to you or the 2-year period after the option was granted. However, you are considered to satisfy the holding period requirement if you sold the stock to comply with conflict-of-interest requirements.
If you sell stock acquired by exercising an ISO, you need to determine if you satisfied the holding period requirement.
Your employer, X Corporation, granted you an ISO on March 12, 2007, to buy 100 shares of X Corporation stock at $10 a share, its fair market value at the time. You exercised the option on January 4, 2008, when the stock was selling on the open market for $12 a share. On January 26, 2009, you sold the stock for $15 a share. Although you held the stock for more than a year, less than 2 years had passed from the time you were granted the option. In 2009, you must report the difference between the option price ($10) and the value of the stock when you exercised the option ($12) as wages. The rest of your gain is capital gain, figured as follows:
| Selling price ($15 × 100 shares) | $ 1,500 |
| Purchase price ($10 × 100 shares) | −1,000 |
| Gain | $ 500 |
| Amount reported as wages [($12 × 100 shares) − $1,000] | − 200 |
| Amount reported as capital gain | $ 300 |
If you sold stock acquired by exercising an option granted under an employee stock purchase plan, you need to determine if you satisfied the holding period requirement.
If you sold stock acquired by exercising an option granted under an employee stock purchase plan, and you satisfy the holding period requirement, determine your ordinary income as follows. Your basis is equal to the option price at the time you exercised your option and acquired the stock. The timing and amount of pay period deductions do not affect your basis. Your holding period for the property you acquire when you exercise an option begins on the day after you exercise the option.
XYZ Company has an employee stock purchase plan. The option price is the lower of the stock price at the time the option is granted or at the time the option is exercised. The value of the stock when the option was granted was $25. XYZ deducts $5 from A's pay every week for 48 weeks (total = $240 ($5 × 48)). The value of the stock when the option is exercised is $20. A receives 12 shares of XYZ stock ($240 ÷ $20). A's holding period for all 12 shares begins the day after the option is exercised, even though the money used to purchase the shares was deducted from A's pay on 48 separate days. A's basis in each share is $20.
If, at the time the option was granted, the option price per share was less than 100% (but not less than 85%) of the fair market value of the share, and you dispose of the share after meeting the holding period requirement, or you die while owning the share, you must include in your income as compensation, the lesser of:
Your employer, Y Corporation, granted you an option under its employee stock purchase plan to buy 100 shares of stock of Y Corporation for $20 a share at a time when the stock had a value of $22 a share. Eighteen months later, when the value of the stock was $23 a share, you exercised the option, and 14 months after that you sold your stock for $30 a share. In the year of sale, you must report as wages the difference between the option price ($20) and the value at the time the option was granted ($22). The rest of your gain ($8 per share) is capital gain, figured as follows:
| Selling price ($30 × 100 shares) | $ 3,000 |
| Purchase price (option price) ($20 × 100 shares) | −2,000 |
| Gain | $ 1,000 |
| Amount reported as wages [($22 × 100 shares) − $2,000] | − 200 |
| Amount reported as capital gain | $ 800 |
If you do not satisfy the holding period requirement, your ordinary income is the amount by which the stock's fair market value when you exercised the option exceeded the option price. This ordinary income is not limited to your gain from the sale of the stock. Increase your basis in the stock by the amount of this ordinary income. The difference between your increased basis and the selling price of the stock is a capital gain or loss.
The facts are the same as in the previous example, except that you sold the stock only 6 months after you exercised the option. You did not satisfy the holding period requirement, so you must report $300 as wages and $700 as capital gain, figured as follows:
| Selling price ($30 × 100 shares) | $3,000 |
| Purchase price (option price) ($20 × 100 shares) | −2,000 |
| Gain | $1,000 |
| Amount reported as wages [($23 × 100 shares) − $2,000] | − 300 |
| Amount reported as capital gain [$3,000 – ($2,000 + $300)] | $700 |
Generally, if you receive property for your services, you must include its fair market value in your income in the year you receive the property. However, if you receive stock or other property that has certain restrictions that affect its value, you do not include the value of the property in your income until it has been substantially vested. (You can choose to include the value of the property in your income in the year it is transferred to you, as discussed later, rather than the year it is substantially vested.)
Until the property becomes substantially vested, it is owned by the person who makes the transfer to you, usually your employer. However, any income from the property, or the right to use the property, is included in your income as additional compensation in the year you receive the income or have the right to use the property.
When the property becomes substantially vested, you must include its fair market value, minus any amount you paid for it, in your income for that year. Your holding period for this property begins when the property becomes substantially vested.
Your employer, the RST Corporation, sells you 100 shares of its stock at $10 a share. At the time of the sale the fair market value of the stock is $100 a share. Under the terms of the sale, the stock is under a substantial risk of forfeiture (you have a good chance of losing it) for a 5-year period. Your stock is not substantially vested when it is transferred, so you do not include any amount in your income in the year you buy it. At the end of the 5-year period, the fair market value of the stock is $200 a share. You must include $19,000 in your income [100 shares × ($200 fair market value − $10 you paid)]. Dividends paid by the RST Corporation on your 100 shares of stock are taxable to you as additional compensation during the period the stock can be forfeited.
Property is substantially vested when:
Property is transferable if you can sell, assign, or pledge your interest in the property to any person (other than the transferor), and if the person receiving your interest in the property is not required to give up the property, or its value, if the substantial risk of forfeiture occurs.
A substantial risk of forfeiture exists if the rights in the property transferred depend on performing (or not performing) substantial services, or on a condition related to the transfer, and the possibility of forfeiture is substantial if the condition is not satisfied.
The Spin Corporation transfers to you as compensation for services 100 shares of its corporate stock for $100 a share. Under the terms of the transfer, you must resell the stock to the corporation at $100 a share if you leave your job for any reason within 3 years from the date of transfer. You must perform substantial services over a period of time and you must resell the stock to the corporation at $100 a share (regardless of its value) if you do not perform the services, so your rights to the stock are subject to a substantial risk of forfeiture.
You can choose to include the value of restricted property at the time of transfer (minus any amount you paid for the property) in your income for the year it is transferred. If you make this choice, the substantial vesting rules do not apply and, generally, any later appreciation in value is not included in your compensation when the property becomes substantially vested. Your basis for figuring gain or loss when you sell the property is the amount you paid for it plus the amount you included in income as compensation. If you make this choice, you cannot revoke it without the consent of the Internal Revenue Service. Consent will be given only if you were under a mistake of fact as to the underlying transaction. If you forfeit the property after you have included its value in income, your loss is the amount you paid for the property minus any amount you realized on the forfeiture. You cannot make this choice for a nonstatutory stock option.
You make the choice by filing a written statement with the Internal Revenue Service Center where you file your return. You must file this statement no later than 30 days after the date the property was transferred. A copy of the statement must be attached to your tax return for the year the property was transferred. You also must give a copy of this statement to the person for whom you performed the services and, if someone other than you received the property, to that person. You must sign the statement and indicate on it that you are making the choice under section 83(b) of the Internal Revenue Code. The statement must contain all of the following information.
These rules apply to the sale or other disposition of property that you did not choose to include in your income in the year transferred and that is not substantially vested. If you sell or otherwise dispose of the property in an arm's-length transaction, include in your income as compensation for the year of sale the amount realized minus the amount you paid for the property. If you exchange the property in an arm's-length transaction for other property that is not substantially vested, treat the new property as if it were substituted for the exchanged property. The sale or other disposition of a nonstatutory stock option to a related person is not considered an arm's-length transaction. See Regulations section 1.83-7 for the definition of a related person. If you sell the property in a transaction that is not at arm's length, include in your income as compensation for the year of sale the total of any money you received and the fair market value of any substantially vested property you received on the sale. In addition, you will have to report income when the original property becomes substantially vested, as if you still held it. Report as compensation its fair market value minus the total of the amount you paid for the property and the amount included in your income from the earlier sale.
In 2006, you paid your employer $50 for a share of stock that had a fair market value of $100 and was subject to forfeiture until 2009. In 2008, you sold the stock to your spouse for $10 in a transaction not at arm's length. You had compensation of $10 from this transaction. In 2009, when the stock had a fair market value of $120, it became substantially vested. For 2009, you must report additional compensation of $60, figured as follows:
| Fair market value of stock at time of substantial vesting | $120 | |
| Minus: Amount paid for stock | $50 | |
| Minus: Compensation previously included in income from sale to spouse | 10 | −60 |
| Additional income | $60 |
This part of the publication deals with special rules for people in certain types of employment: members of the clergy, members of religious orders, people working for foreign employers, military personnel, and volunteers.
If you are a member of the clergy, you must include in your income offerings and fees you receive for marriages, baptisms, funerals, masses, etc., in addition to your salary. If the offering is made to the religious institution, it is not taxable to you.
If you are a member of a religious organization and you give your outside earnings to the organization, you still must include the earnings in your income. However, you may be entitled to a charitable contribution deduction for the amount paid to the organization. See Publication 526, Charitable Contributions. Also, see Members of Religious Orders, later.
Special rules for housing apply to members of the clergy. Under these rules, you do not include in your income the rental value of a home (including utilities) or a designated housing allowance provided to you as part of your pay. However, the exclusion cannot be more than the reasonable pay for your service. If you pay for the utilities, you can exclude any allowance designated for utility cost, up to your actual cost. The home or allowance must be provided as compensation for your services as an ordained, licensed, or commissioned minister. However, you must include the rental value of the home or the housing allowance as earnings from self-employment on Schedule SE (Form 1040), Self-Employment Tax, if you are subject to the self-employment tax. For more information, see Publication 517, Social Security and Other Information for Members of the Clergy and Religious Workers.
If you are a member of a religious order who has taken a vow of poverty, how you treat earnings that you renounce and turn over to the order depends on whether your services are performed for the order.
If you are performing the services as an agent of the order in the exercise of duties required by the order, do not include in your income the amounts turned over to the order. If your order directs you to perform services for another agency of the supervising church or an associated institution, you are considered to be performing the services as an agent of the order. Any wages you earn as an agent of an order that you turn over to the order are not included in your income.
You are a member of a church order and have taken a vow of poverty. You renounce any claims to your earnings and turn over to the order any salaries or wages you earn. You are a registered nurse, so your order assigns you to work in a hospital that is an associated institution of the church. However, you remain under the general direction and control of the order. You are considered to be an agent of the order and any wages you earn at the hospital that you turn over to your order are not included in your income.
If you are directed to work outside the order, your services are not an exercise of duties required by the order unless they meet both of the following requirements.
Mark Brown is a member of a religious order and has taken a vow of poverty. He renounces all claims to his earnings and turns over his earnings to the order.
Mark is a schoolteacher. He was instructed by the superiors of the order to get a job with a private tax-exempt school. Mark became an employee of the school, and, at his request, the school made the salary payments directly to the order.
Because Mark is an employee of the school, he is performing services for the school rather than as an agent of the order. The wages Mark earns working for the school are included in his income.
Gene Dennis is a member of a religious order who, as a condition of membership, has taken vows of poverty and obedience. All claims to his earnings are renounced. Gene received permission from the order to establish a private practice as a psychologist and counsels members of religious orders as well as nonmembers. Although the order reviews Gene's budget annually, Gene controls not only the details of his practice but also the means by which his work as a psychologist is accomplished.
Gene's private practice as a psychologist does not make him an agent of the religious order. The psychological services provided by Gene are not the type of services that are provided by the order. The income Gene earns as a psychologist is earned in his individual capacity. Gene must include in his income the earnings from his private practice.
Special rules apply if you work for a foreign employer.
If you are a U.S. citizen who works in the United States for a foreign government, an international organization, a foreign embassy, or any foreign employer, you must include your salary in your income.
You are exempt from social security and Medicare employee taxes if you are employed in the United States by an international organization or a foreign government. However, you must pay self-employment tax on your earnings from services performed in the United States, even though you are not self-employed. This rule also applies if you are an employee of a qualifying wholly owned instrumentality of a foreign government.
Your compensation for official services to an international organization is exempt from federal income tax if you are not a citizen of the United States or you are a citizen of the Philippines (whether or not you are a citizen of the United States). Your compensation for official services to a foreign government is exempt from federal income tax if all of the following are true.
This exemption applies only to employees' wages, salaries, and fees. Pensions and other income do not qualify for this exemption.
Payments you receive as a member of a military service generally are taxed as wages except for retirement pay, which is taxed as a pension. Allowances generally are not taxed. For more information on the tax treatment of military allowances and benefits, see Publication 3, Armed Forces' Tax Guide.
If you are retired on disability, see Military and Government Disability Pensions under Sickness and Injury Benefits, later.
Do not include in your income any veterans' benefits paid under any law, regulation, or administrative practice administered by the Department of Veterans Affairs (VA). The following amounts paid to veterans or their families are not taxable.
The tax treatment of amounts you receive as a volunteer is covered in the following discussions.
Living allowances you receive as a Peace Corps volunteer or volunteer leader for housing, utilities, household supplies, food, and clothing are exempt from tax.
The following allowances must be included in your income and reported as wages.
Gary Carpenter, a Peace Corps volunteer, gets $175 a month as a readjustment allowance during his period of service, to be paid to him in a lump sum at the end of his tour of duty. Although the allowance is not available to him until the end of his service, Gary must include it in his income on a monthly basis as it is credited to his account.
If you are a VISTA volunteer, you must include meal and lodging allowances paid to you in your income as wages.
Do not include in your income amounts you receive for supportive services or reimbursements for out-of-pocket expenses from the following programs.
If you receive amounts for supportive services or reimbursements for out-of-pocket expenses from SCORE, do not include these amounts in gross income.
Do not include in your income any reimbursements you receive for transportation, meals, and other expenses you have in training for, or actually providing, volunteer federal income tax counseling for the elderly (TCE). You can deduct as a charitable contribution your unreimbursed out-of-pocket expenses in taking part in the volunteer income tax assistance (VITA) program.
If you are a volunteer firefighter or emergency medical responder, do not include in your income the following benefits you receive from a state or local government.
The excluded income reduces any related tax or contribution deduction.
This section provides information on the treatment of income from certain rents and royalties, and from interests in partnerships and S corporations.
Income from sales at auctions, including online auctions, may be business income. For more information, see Publication 334.If you rent out personal property, such as equipment or vehicles, how you report your income and expenses is generally determined by:
Generally, if your primary purpose is income or profit and you are involved in the rental activity with continuity and regularity, your rental activity is a business. See Publication 535, Business Expenses, for details on deducting expenses for both business and not-for-profit activities.
Royalties from copyrights, patents, and oil, gas, and mineral properties are taxable as ordinary income.
You generally report royalties in Part I of Schedule E (Form 1040), Supplemental Income and Loss. However, if you hold an operating oil, gas, or mineral interest or are in business as a self-employed writer, inventor, artist, etc., report your income and expenses on Schedule C or Schedule C-EZ (Form 1040).
Royalties from copyrights on literary, musical, or artistic works, and similar property, or from patents on inventions, are amounts paid to you for the right to use your work over a specified period of time. Royalties generally are based on the number of units sold, such as the number of books, tickets to a performance, or machines sold.
Royalty income from oil, gas, and mineral properties is the amount you receive when natural resources are extracted from your property. The royalties are based on units, such as barrels, tons, etc., and are paid to you by a person or company who leases the property from you.
If you own mineral property but sell part of the future production, you generally treat the money you receive from the buyer at the time of the sale as a loan from the buyer. Do not include it in your income or take depletion based on it. When production begins, you include all the proceeds in your income, deduct all the production expenses, and deduct depletion from that amount to arrive at your taxable income from the property.
A partnership generally is not a taxable entity. The income, gains, losses, deductions, and credits of a partnership are passed through to the partners based on each partner's distributive share of these items. For more information, see Publication 541.
Your distributive share of partnership income, gains, losses, deductions, or credits generally is based on the partnership agreement. You must report your distributive share of these items on your return whether or not they actually are distributed to you. However, your distributive share of the partnership losses is limited to the adjusted basis of your partnership interest at the end of the partnership year in which the losses took place.
The partnership agreement usually covers the distribution of profits, losses, and other items. However, if the agreement does not state how a specific item of gain or loss will be shared, or the allocation stated in the agreement does not have substantial economic effect, your distributive share is figured according to your interest in the partnership.
In general, an S corporation does not pay tax on its income. Instead, the income, losses, deductions, and credits of the corporation are passed through to the shareholders based on each shareholder's pro rata share. You must report your share of these items on your return. Generally, the items passed through to you will increase or decrease the basis of your S corporation stock as appropriate.
Generally, S corporation distributions are a nontaxable return of your basis in the corporation stock. However, in certain cases, part of the distributions may be taxable as a dividend, or as a long-term or short-term capital gain, or as both. The corporation's distributions may be in the form of cash or property.
Generally, you must report as income any amount you receive for personal injury or sickness through an accident or health plan that is paid for by your employer. If both you and your employer pay for the plan, only the amount you receive that is due to your employer's payments is reported as income. However, certain payments may not be taxable to you. For information on nontaxable payments, see Military and Government Disability Pensions and Other Sickness and Injury Benefits, later in this discussion.
Do not report as income any amounts paid to reimburse you for medical expenses you incurred after the plan was established.If you pay the entire cost of an accident or health plan, do not include any amounts you receive from the plan for personal injury or sickness as income on your tax return. If your plan reimbursed you for medical expenses you deducted in an earlier year, you may have to include some, or all, of the reimbursement in your income. See Recoveries under Miscellaneous Income, later.
Generally, if you are covered by an accident or health insurance plan through a cafeteria plan, and the amount of the insurance premiums was not included in your income, you are not considered to have paid the premiums and you must include any benefits you receive in your income. If the amount of the premiums was included in your income, you are considered to have paid the premiums and any benefits you receive are not taxable.
If you retired on disability, you must include in income any disability pension you receive under a plan that is paid for by your employer. You must report your taxable disability payments as wages on line 7 of Form 1040 or Form 1040A until you reach minimum retirement age. Minimum retirement age generally is the age at which you can first receive a pension or annuity if you are not disabled.
You may be entitled to a tax credit if you were permanently and totally disabled when you retired. For information on this credit, see Publication 524, Credit for the Elderly or the Disabled.Beginning on the day after you reach minimum retirement age, payments you receive are taxable as a pension or annuity. Report the payments on lines 16a and 16b of Form 1040 or on lines 12a and 12b of Form 1040A. For more information on pensions and annuities, see Publication 575.
If you receive payments from a retirement or profit-sharing plan that does not provide for disability retirement, do not treat the payments as a disability pension. The payments must be reported as a pension or annuity.
If you retire on disability, any lump-sum payment you receive for accrued annual leave is a salary payment. The payment is not a disability payment. Include it in your income in the tax year you receive it.
Certain military and government disability pensions are not taxable.
You may be able to exclude from income amounts you receive as a pension, annuity, or similar allowance for personal injury or sickness resulting from active service in one of the following government services.
Do not include the disability payments in your income if any of the following conditions apply.
If you receive a disability pension based on years of service, you generally must include it in your income. However, if the pension qualifies for the exclusion for a service-connected disability (discussed earlier), do not include in income the part of your pension that you would have received if the pension had been based on a percentage of disability. You must include the rest of your pension in your income.
Generally, under the statute of limitations a claim for credit or refund must be filed within 3 years from the time a return was filed. However, if you receive a retroactive service-connected disability rating determination, the statute of limitations is extended by a 1-year period beginning on the date of the determination. This 1-year extended period applies to claims for credit or refund filed after June 17, 2008, and does not apply to any tax year that began more than 5 years before the date of the determination.
You retired in 2003 and receive a pension based on your years of service. On August 6, 2009, you receive a determination of service-connected disability retroactive to 2003. Generally, you could claim a refund for the taxes paid on your pension for 2006, 2007, and 2008. However, under the special limitation period, you can also file a claim for 2005 as long as you file the claim by August 6, 2010. You cannot file a claim for 2003 and 2004 because those tax years began more than 5 years before the determination.
Do not include in your income disability payments you receive for injuries resulting directly from a terrorist or military action. A terrorist action is one that is directed against the United States or any of its allies (including a multinational force in which the United States is participating). A military action is one that involves the armed forces of the United States and is a result of actual or threatened violence or aggression against the United States or any of its allies, but does not include training exercises.
Long-term care insurance contracts generally are treated as accident and health insurance contracts. Amounts you receive from them (other than policyholder dividends or premium refunds) generally are excludable from income as amounts received for personal injury or sickness. To claim an exclusion for payments made on a per diem or other periodic basis under a long-term care insurance contract, you must file Form 8853 with your return.
A long-term care insurance contract is an insurance contract that only provides coverage for qualified long-term care services. The contract must:
Qualified long-term care services are:
A chronically ill individual is one who has been certified by a licensed health care practitioner within the previous 12 months as one of the following.
The exclusion for payments made on a per diem or other periodic basis under a long-term care insurance contract is subject to a limit. The limit applies to the total of these payments and any accelerated death benefits made on a per diem or other periodic basis under a life insurance contract because the insured is chronically ill. (For more information on accelerated death benefits, see Life Insurance Proceeds under Miscellaneous Income, later.) Under this limit, the excludable amount for any period is figured by subtracting any reimbursement received (through insurance or otherwise) for the cost of qualified long-term care services during the period from the larger of the following amounts.
Amounts you receive as workers' compensation for an occupational sickness or injury are fully exempt from tax if they are paid under a workers' compensation act or a statute in the nature of a workers' compensation act. The exemption also applies to your survivors. The exemption, however, does not apply to retirement plan benefits you receive based on your age, length of service, or prior contributions to the plan, even if you retired because of an occupational sickness or injury.
If part of your workers' compensation reduces your social security or equivalent railroad retirement benefits received, that part is considered social security (or equivalent railroad retirement) benefits and may be taxable. For a discussion of the taxability of these benefits, see Other Income under Miscellaneous Income, later.If you return to work after qualifying for workers' compensation, salary payments you receive for performing light duties are taxable as wages.
If your disability pension is paid under a statute that provides benefits only to employees with service-connected disabilities, part of it may be workers' compensation. That part is exempt from tax. The rest of your pension, based on years of service, is taxable as pension or annuity income. If you die, the part of your survivors' benefit that is a continuation of the workers' compensation is exempt from tax.
In addition to disability pensions and annuities, you may receive other payments for sickness or injury.
Payments you receive as sick pay under the Railroad Unemployment Insurance Act are taxable and you must include them in your income. However, do not include them in your income if they are for an on-the-job injury.
These payments are similar to workers' compensation and generally are not taxable.
The Consolidated Omnibus Budget Reconciliation Act of 1985 (COBRA) provides that if you were covered under a group health plan and you would lose coverage because of a qualifying event, you should be allowed an opportunity to elect COBRA continuation health coverage under the plan. If there was no available election, your employer or the plan was subject to an excise tax. You can be required to pay the full premium for the COBRA continuation coverage. If you are an assistance eligible individual, you pay 35% of the premium otherwise payable for this coverage and are treated as having paid the full premium. You are an assistance eligible individual if:
Many other amounts you receive as compensation for sickness or injury are not taxable. These include the following amounts.
This section discusses various types of income. You may have taxable income from certain transactions even if no money changes hands. For example, you may have taxable income if you lend money at a below-market interest rate or have a debt you owe canceled.
Bartering is an exchange of property or services. You must include in your income, at the time received, the fair market value of property or services you receive in bartering. If you exchange services with another person and you both have agreed ahead of time on the value of the services, that value will be accepted as fair market value unless the value can be shown to be otherwise.
Generally, you report this income on Schedule C or Schedule C-EZ (Form 1040). However, if the barter involves an exchange of something other than services, such as in Example 4 below, you may have to use another form or schedule instead.
You are a self-employed attorney who performs legal services for a client, a small corporation. The corporation gives you shares of its stock as payment for your services. You must include the fair market value of the shares in your income on Schedule C or Schedule C-EZ (Form 1040) in the year you receive them.
You are a self-employed accountant. You and a house painter are members of a barter club. Members get in touch with each other directly and bargain for the value of the services to be performed. In return for accounting services you provided, the house painter painted your home. You must report as your income on Schedule C or Schedule C-EZ (Form 1040) the fair market value of the house painting services you received. The house painter must include in income the fair market value of the accounting services you provided.
You are self-employed and a member of a barter club. The club uses credit units as a means of exchange. It adds credit units to your account for goods or services you provide to members, which you can use to purchase goods or services offered by other members of the barter club. The club subtracts credit units from your account when you receive goods or services from other members. You must include in your income the value of the credit units that are added to your account, even though you may not actually receive goods or services from other members until a later tax year.
You own a small apartment building. In return for 6 months rent-free use of an apartment, an artist gives you a work of art she created. You must report as rental income on Schedule E (Form 1040) the fair market value of the artwork, and the artist must report as income on Schedule C or Schedule C-EZ (Form 1040) the fair rental value of the apartment.
The income you receive from bartering generally is not subject to regular income tax withholding. However, backup withholding will apply in certain circumstances to ensure that income tax is collected on this income. Under backup withholding, the barter exchange must withhold, as income tax, 28% of the income if:
Generally, if a debt you owe is canceled or forgiven, other than as a gift or bequest, you must include the canceled amount in your income. You have no income from the canceled debt if it is intended as a gift to you. A debt includes any indebtedness for which you are liable or which attaches to property you hold.
If the debt is a nonbusiness debt, report the canceled amount on Form 1040, line 21. If it is a business debt, report the amount on Schedule C or Schedule C-EZ (Form 1040) (or on Schedule F (Form 1040), Profit or Loss From Farming, if the debt is farm debt and you are a farmer).
If the debt is a business debt, you may be able to elect to recognize the canceled debt in income over a 5 tax year period. For information on this election, see Revenue Procedure 2009-37 available at www.irs.gov/irb/2009-36_irb/ar01.html.
If your financial institution offers a discount for the early payment of your mortgage loan, the amount of the discount is canceled debt. You must include the canceled amount in your income.
There are several exceptions to the inclusion of canceled debt in income. These are explained next.
Certain student loans contain a provision that all or part of the debt incurred to attend the qualified educational institution will be canceled if you work for a certain period of time in certain professions for any of a broad class of employers. You do not have income if your student loan is canceled after you agreed to this provision and then performed the services required. To qualify, the loan must have been made by:
You do have income if your student loan was made by an educational institution and is canceled because of services you performed for the institution or other organization that provided the funds.
Education loan repayments made to you by the National Health Service Corps Loan Repayment Program (NHSC Loan Repayment Program) or a state education loan repayment program eligible for funds under the Public Health Service Act are not taxable if you agree to provide primary health services in health professional shortage areas.
Generally, if the seller reduces the amount of debt you owe for property you purchased, you do not have income from the reduction. The reduction of the debt is treated as a purchase price adjustment and reduces your basis in the property.
Do not include a canceled debt in your gross income in the following situations.
Your principal residence is the home where you ordinarily live most of the time. You can have only one principal residence at any one time.
The maximum amount you can treat as QPRI is $2 million ($1 million if married filing separately). You cannot exclude debt canceled because of services performed for the lender or on account of any other factor not directly related to a decline in the value of your residence or to your financial condition.
If only part of a loan is QPRI, the exclusion applies only to the extent the canceled amount is more than the amount of the loan immediately before the cancellation that is not QPRI.
Your principal residence is secured by a debt of $1 million, of which $800,000 is QPRI. Your residence is sold for $700,000 and $300,000 of debt is canceled. Only $100,000 of the canceled debt may be excluded from income (the $300,000 that was discharged minus the $200,000 of nonqualified debt).
If you host a party or event at which sales are made, any gift or gratuity you receive for giving the event is a payment for helping a direct seller make sales. You must report this item as income at its fair market value.
Your out-of-pocket party expenses are subject to the 50% limit for meal and entertainment expenses. These expenses are deductible as miscellaneous itemized deductions subject to the 2%-of-AGI limit on Schedule A (Form 1040), but only up to the amount of income you receive for giving the party.
For more information about the 50% limit for meal and entertainment expenses, see 50% Limit in Publication 463.
Life insurance proceeds paid to you because of the death of the insured person are not taxable unless the policy was turned over to you for a price. This is true even if the proceeds were paid under an accident or health insurance policy or an endowment contract. However, interest income received as a result of life insurance proceeds may be taxable.
If death benefits are paid to you in a lump sum or other than at regular intervals, include in your income only the benefits that are more than the amount payable to you at the time of the insured person's death. If the benefit payable at death is not specified, you include in your income the benefit payments that are more than the present value of the payments at the time of death.
If you receive life insurance proceeds in installments, you can exclude part of each installment from your income. To determine the excluded part, divide the amount held by the insurance company (generally the total lump sum payable at the death of the insured person) by the number of installments to be paid. Include anything over this excluded part in your income as interest.
The face amount of the policy is $75,000 and, as beneficiary, you choose to receive 120 monthly installments of $1,000 each. The excluded part of each installment is $625 ($75,000 ÷ 120), or $7,500 for an entire year. The rest of each payment, $375 a month (or $4,500 for an entire year), is interest income to you.
If, as the beneficiary under an insurance contract, you are entitled to receive the proceeds in installments for the rest of your life without a refund or period-certain guarantee, you figure the excluded part of each installment by dividing the amount held by the insurance company by your life expectancy. If there is a refund or period-certain guarantee, the amount held by the insurance company for this purpose is reduced by the actuarial value of the guarantee.
If your spouse died before October 23, 1986, and insurance proceeds paid to you because of the death of your spouse are received in installments, you can exclude up to $1,000 a year of the interest included in the installments. If you remarry, you can continue to take the exclusion.
If you are the policyholder of an employer-owned life insurance contract, you must include in income any life insurance proceeds received that are more than the premiums and any other amounts you paid on the policy. You are subject to this rule if you have a trade or business, you own a life insurance contract on the life of your employee, and you (or a related person) are a beneficiary under the contract. However, you may exclude the full amount of the life insurance proceeds if the following apply.
If an insurance company pays you interest only on proceeds from life insurance left on deposit, the interest you are paid is taxable. If your spouse died before October 23, 1986, and you chose to receive only the interest from your insurance proceeds, the $1,000 interest exclusion for a surviving spouse does not apply. If you later decide to receive the proceeds from the policy in installments, you can take the interest exclusion from the time you begin to receive the installments.
Generally, a split-dollar life insurance arrangement is an arrangement between an owner and a non-owner of a life insurance contract under which either party to the arrangement pays all or part of the premiums, and one of the parties paying the premiums is entitled to recover all or part of those premiums from the proceeds of the contract. There are two mutually exclusive regimes to tax split-dollar life insurance arrangements.
Only one of these regimes applies to any one policy. For more information, see sections 1.61-22 and 1.7872-15 of the regulations.
An endowment contract is a policy under which you are paid a specified amount of money on a certain date unless you die before that date, in which case, the money is paid to your designated beneficiary. Endowment proceeds paid in a lump-sum to you at maturity are taxable only if the proceeds are more than the cost of the policy. To determine your cost, subtract any amount that you previously received under the contract and excluded from your income from the total premiums (or other consideration) paid for the contract. Include the part of the lump-sum payment that is more than your cost in your income.
Endowment proceeds that you choose to receive in installments instead of a lump-sum payment at the maturity of the policy are taxed as an annuity. This is explained in Publication 575. For this treatment to apply, you must choose to receive the proceeds in installments before receiving any part of the lump sum. This election must be made within 60 days after the lump-sum payment first becomes payable to you.
Certain amounts paid as accelerated death benefits under a life insurance contract or viatical settlement before the insured's death are excluded from income if the insured is terminally or chronically ill.
This is the sale or assignment of any part of the death benefit under a life insurance contract to a viatical settlement provider. A viatical settlement provider is a person who regularly engages in the business of buying or taking assignment of life insurance contracts on the lives of insured individuals who are terminally or chronically ill and who meets the requirements of section 101(g)(2)(B) of the Internal Revenue Code.
Accelerated death benefits are fully excludable if the insured is a terminally ill individual. This is a person who has been certified by a physician as having an illness or physical condition that can reasonably be expected to result in death within 24 months from the date of the certification.
If the insured is a chronically ill individual who is not terminally ill, accelerated death benefits paid on the basis of costs incurred for qualified long-term care services are fully excludable. Accelerated death benefits paid on a per diem or other periodic basis are excludable up to a limit. This limit applies to the total of the accelerated death benefits and any periodic payments received from long-term care insurance contracts. For information on the limit and the definitions of chronically ill individual, qualified long-term care services, and long-term care insurance contracts, see Long-Term Care Insurance Contracts under Sickness and Injury Benefits, earlier.
The exclusion does not apply to any amount paid to a person (other than the insured) who has an insurable interest in the life of the insured because the insured:
A recovery is a return of an amount you deducted or took a credit for in an earlier year. The most common recoveries are refunds, reimbursements, and rebates of itemized deductions. You also may have recoveries of non-itemized deductions (such as payments on previously deducted bad debts) and recoveries of items for which you previously claimed a tax credit.
You must include a recovery in your income in the year you receive it up to the amount by which the deduction or credit you took for the recovered amount reduced your tax in the earlier year. For this purpose, any increase to an amount carried over to the current year that resulted from the deduction or credit is considered to have reduced your tax in the earlier year.
Refunds of federal income taxes are not included in your income because they are never allowed as a deduction from income.
the maximum refund that you may have to include in income is limited to the excess of the tax you chose to deduct for that year over the tax you did not choose to deduct for that year.
For 2008 you can choose an $11,000 state income tax deduction or a $10,000 state general sales tax deduction. You choose to deduct the state income tax. In 2009 you receive a $2,500 state income tax refund. The maximum refund that you may have to include in income is $1,000, since you could have deducted $10,000 in state general sales tax.
For 2008 you can choose an $11,500 state general sales tax deduction based on actual expenses or an $11,200 state income tax deduction. You choose to deduct the general sales tax deduction. In 2009 you return an item you had purchased and receive a $500 sales tax refund. In 2009 you also receive a $1,500 state income tax refund. The maximum refund that you may have to include in income is $500, since it is less than the excess of the tax deducted ($11,500) over the tax you did not choose to deduct ($11,200 − $1,500 = $9,700). Since you did not choose to deduct the state income tax, you do not include the state income tax refund in income.
For 2008, you could claim your real property tax as part of your itemized deductions or your standard deduction. If you claimed them as part of your itemized deductions, they are subject to the rules for Itemized Deduction Recoveries, discussed later. If you claimed them as part of your standard deduction, the deduction is limited to the lesser of:
If you claimed $500 ($1,000 if married filing jointly) as part of your standard deduction and you receive a real property tax refund in 2009, you would include in income only that part of the refund that reduced your real property tax below $500 ($1,000 if married filing jointly).
You are single and claim the standard deduction for 2008. You paid real property taxes of $800 in 2008. As part of your standard deduction, you claimed $500 for your real property taxes. In 2009, you receive a $400 refund of real property tax. The maximum refund that you may have to include in income is $100.
If the refund or other recovery and the expense occur in the same year, the recovery reduces the deduction or credit and is not reported as income.
If you receive a refund or other recovery that is for amounts you paid in 2 or more separate years, you must allocate, on a pro rata basis, the recovered amount between the years in which you paid it. This allocation is necessary to determine the amount of recovery from any earlier years and to determine the amount, if any, of your allowable deduction for this item for the current year.
You paid 2008 estimated state income tax of $4,000 in four equal payments. You made your fourth payment in January 2009. You had no state income tax withheld during 2008. In 2009, you received a $400 tax refund based on your 2008 state income tax return. You claimed itemized deductions each year on Schedule A (Form 1040).
You must allocate the $400 refund between 2008 and 2009, the years in which you paid the tax on which the refund is based. You paid 75% ($3,000 ÷ $4,000) of the estimated tax in 2008, so 75% of the $400 refund, or $300, is for amounts you paid in 2008 and is a recovery item. If all of the $300 is a taxable recovery item, you will include $300 on Form 1040, line 10, for 2009, and attach a copy of your computation showing why that amount is less than the amount shown on the Form 1099-G you received from the state.
The balance ($100) of the $400 refund is for your January 2009 estimated tax payment. When you figure your deduction for state and local income taxes paid during 2009, you will reduce the $1,000 paid in January by $100. Your deduction for state and local income taxes paid during 2009 will include the January net amount of $900 ($1,000 − $100), plus any estimated state income taxes paid in 2009 for 2009, and any state income tax withheld during 2009.
If you did not itemize deductions for the year for which you received the recovery of an expense that was deductible only if you itemized, do not include any of the recovery amount in your income.
You claimed the standard deduction on your 2008 federal income tax return. In 2009 you received a refund of your 2008 state income tax. Do not report any of the refund as income because you did not itemize deductions for 2008.
The following discussion explains how to determine the amount to include in your income from a recovery of an amount deducted in an earlier year as an itemized deduction. However, you generally do not need to use this discussion if you file Form 1040 and the recovery is for state or local income taxes paid in 2008. Instead, use the worksheet in the 2009 Form 1040 instructions for line 10 to figure the amount (if any) to include in your income.
You cannot use the Form 1040 worksheet and must use this discussion if you are a nonresident alien (discussed later) or any of the following statements are true.
If you also recovered an amount deducted as a non-itemized deduction, figure the amount of that recovery to include in your income and add it to your adjusted gross income before applying the rules explained here. See Non-Itemized Deduction Recoveries, later.
If you recover any itemized deduction that you claimed in an earlier year, you generally must include the full amount of the recovery in your income in the year you receive it. This rule applies if, for the earlier year, all of the following statements are true.
If any of the earlier statements is not true, see Total recovery not included in income, later.
In addition to the previous six items, you must include in your income the full amount of a refund of state or local income tax or general sales tax if the excess of the tax you deducted over the tax you did not deduct is more than the refund of the tax deducted. If the refund is more than the excess, see Total recovery not included in income, later.
For 2008, you filed a joint return on Form 1040. Your taxable income was $60,000 and you were not entitled to any tax credits. Your standard deduction was $11,400, and you had itemized deductions of $13,000. In 2009, you received the following recoveries for amounts deducted on your 2008 return:
| Medical expenses | $200 |
| State and local income tax refund | 400 |
| Refund of mortgage interest | 325 |
| Total recoveries | $925 |
None of the recoveries were more than the deductions taken for 2008. The difference between the state and local income tax you deducted and your local general sales tax was more than $400.
Your total recoveries are less than the amount by which your itemized deductions exceeded the standard deduction ($13,000 − $11,400 = $1,600), so you must include your total recoveries in your income for 2009. Report the state and local income tax refund of $400 on Form 1040, line 10, and the balance of your recoveries, $525, on Form 1040, line 21.
If one or more of the six statements listed in the preceding discussion is not true, you may be able to exclude at least part of the recovery from your income. See the discussion referenced to in the statement. You may be able to use Worksheet 2 on page 25 to determine the part of your recovery to include in your income. You also can use Worksheet 2 to determine the part of a state tax refund (discussed earlier) to include in income.
In 2009 you recovered $2,500 of your 2008 itemized deductions claimed on Schedule A (Form 1040), but the recoveries you must include in your 2009 income are only $1,500. Of the $2,500 you recovered, $500 was due to your state income tax refund. Your state income tax was more than your state general sales tax by $600. The amount you report as a state tax refund on Form 1040, line 10, is $300 [($500 ÷ $2,500) × $1,500]. The balance of the taxable recoveries, $1,200, is reported as other income on Form 1040, line 21.
You generally are allowed to claim the standard deduction if you do not itemize your deductions. Only your itemized deductions that are more than your standard deduction are subject to the recovery rule (unless you are required to itemize your deductions). If your total deductions on the earlier year return were not more than your income for that year, include in your income this year the lesser of:
You filed a joint return on Form 1040 for 2008 with taxable income of $45,000. Your itemized deductions were $11,550. The standard deduction that you could have claimed was $10,900. In 2009, you recovered $2,100 of your 2008 itemized deductions. None of the recoveries were more than the actual deductions for 2008. Include $650 of the recoveries in your 2009 income. This is the smaller of your recoveries ($2,100) or the amount by which your itemized deductions were more than the standard deduction ($11,550 − $10,900 = $650).
If your taxable income for the prior year (Worksheet 2, line 10) was a negative amount, the recovery you must include in income is reduced by that amount. You have a negative taxable income for 2008 if your:
The facts are the same as in the previous example except line 42 was $200 more than line 41 on your 2008 Form 1040 giving you a negative taxable income of $200. You must include $450 in your 2009 income, rather than $650.
You do not include in your income any amount of your recovery that is more than the amount you deducted in the earlier year. The amount you include in your income is limited to the smaller of:
During 2008, you paid $1,700 for medical expenses. From this amount you subtracted $1,500, which was 7.5% of your adjusted gross income. Your actual medical expense deduction was $200. In 2009, you received a $500 reimbursement from your medical insurance for your 2008 expenses. The only amount of the $500 reimbursement that must be included in your income for 2009 is $200—the amount actually deducted.
You were subject to the limit on itemized deductions in the earlier year if your adjusted gross income (AGI) was more than a base amount. This amount was:
The result of step 2 is the amount of the recovery to include in your income for the year you receive the recovery. If your taxable income for the earlier year was a negative amount, reduce your recovery by the negative amount. If you had unused tax credits in the earlier year, see Unused tax credits, later. For more information on this computation, see Revenue Ruling 93-75. This ruling is in Cumulative Bulletin 1993-2.
| To determine whether you should complete this worksheet to figure the part of a recovery amount to include in income on your 2009 tax return, see Itemized Deduction Recoveries. If you recovered amounts from more than one year, such as a state income tax refund from 2008 and a casualty loss reimbursement from 2007, complete a separate worksheet for each year. Use information from your tax return for the year the expense was deducted. A recovery is included in income only to the extent of the deduction amount that reduced your tax in the prior year (year of the deduction). If you were subject to the alternative minimum tax or your tax credits reduced your tax to zero, see Unused tax credits and Subject to alternative minimum tax under Itemized Deduction Recoveries. If your recovery was for an itemized deduction that was limited, you should read Itemized deductions limited under Itemized Deduction Recoveries. | ||||||
| 1. | State/local income tax refund or credit1 | 1. | ||||
| 2. | Enter the total of all other Schedule A refunds or reimbursements (excluding the amount you entered on line 1)2 | 2. | ||||
| 3. | Add lines 1 and 2 | 3. | ||||
| 4. | Itemized deductions for the prior year. For 2008, Form 1040, Schedule A, line 29 Form 1040NR, Schedule A, line 17 Form 1040NR-EZ, line 11 | 4. | ||||
| 5. | Enter any amount previously refunded to you (do not enter an amount from line 1 or line 2) | 5. | ||||
| 6. | Subtract line 5 from line 4 | 6. | ||||
| 7. | Standard deduction for the prior year. (If you filed Form 1040, the standard deduction amounts for 2008, 2007, and 2006 are shown in Tables 2, 3, and 4. If you filed Form 1040NR or 1040NR-EZ, enter -0-.) | 7. | ||||
| 8. | Subtract line 7 from line 6. If the result is zero or less, stop here. The amounts on lines 1 and 2 are not taxable | 8. | ||||
| 9. | Enter the smaller of line 3 or line 8 | 9. | ||||
| 10. | Taxable income for prior year3 (2008 Form 1040, line 43; 2008 Form 1040NR, line 40; 2008 Form 1040NR-EZ, line 14) | 10. | ||||
| 11. | Amount to include in income for 2009:
| 11. | ||||
| If line 11 equals line 3— Enter the amount from line 1 on Form 1040, line 10; Form 1040NR, line 11; Form 1040NR-EZ, line 4. Enter the amount from line 2 on Form 1040, line 21; Form 1040NR, line 21. | ||||||
| If line 11 is less than line 3 and either line 1 or line 2 is zero— If there is an amount on line 1, enter the amount from line 11 on Form 1040, line 10; Form 1040NR, line 11; Form 1040NR-EZ, line 4. If there is an amount on line 2, enter the amount from line 11 on Form 1040, line 21; Form 1040NR, line 21. | ||||||
| If line 11 is less than line 3, and there are amounts on both lines 1 and 2, complete the following worksheet. | ||||||
| A. | Divide the amount on line 1 by the amount on line 3. Enter the percentage | A. | ||||
| B. | Multiply the amount on line 11 by the percentage on line A. Enter the result here and on Form 1040, line 10; Form 1040NR, line 11 | B. | ||||
| C. | Subtract the amount on line B from the amount on line 11. Enter the result here and on Form 1040, line 21; Form 1040NR, line 21 | C. |
| 1 Do not enter more than the amount deducted for the prior year. Do not enter more than the excess of your state and local income tax deduction over your state and local general sales taxes you could have deducted. |
| 2 Do not enter more than the amount deducted for the prior year. If you deducted state and local general sales taxes and received a refund of those taxes, include the amount on line 2, but do not enter more than the excess of your sales tax deduction over your state and local income tax you could have deducted. |
| 3 If taxable income is a negative amount, enter that amount in brackets. Do not enter zero unless your taxable income is exactly zero. See Negative taxable income. Taxable income will have to be adjusted for any net operating loss carryover. For more information, see Publication 536, Net Operating Losses (NOLs) for Individuals, Estates, and Trusts. |
| 4 For example, $700 + ($400) = $300. |
| Caution: If you are married filing a separate return and your spouse itemizes deductions, or if you are a dual-status alien, you cannot take the standard deduction even if you were born before January 2, 1944, or you are blind. |
| IF your filing status is . . . | THEN your standard deduction is . . . |
| Single or Married filing separately | $5,450 |
| Married filing joint return or Qualifying widow(er) with dependent child | 10,900 |
| Head of household | 8,000 |
| * DO NOT use this chart if you were born before January 2, 1944, or you are blind, OR if someone else can claim an exemption for you (or your spouse if married filing jointly). Use Table II or III instead. |
| Check the correct number of boxes below. Then go to the chart. | ||
| You | Born before January 2, 1944 □ | Blind □ |
| Your spouse, if claiming spouse's exemption | Born before January 2, 1944 □ | Blind □ |
| Total number of boxes you checked ____ | ||
| IF your filing status is . . . | AND the number on the line above is . . . | THEN your standard deduction is . . . |
| Single | 1 2 | $ 6,800 8,150 |
| Married filing joint return or Qualifying widow(er) with dependent child | 1 2 3 4 | 11,950 13,000 14,050 15,100 |
| Married filing separate return | 1 2 3 4 | 6,500 7,550 8,600 9,650 |
| Head of household | 1 2 | 9,350 10,700 |
| *If someone else can claim an exemption for you (or your spouse if married filing jointly), use Table III instead. |
| If you were born before January 2, 1944, or you were blind, check the correct number of boxes below. Then go to the worksheet. | ||||||
| You | Born before January 2, 1944 □ | Blind □ | ||||
| Your spouse, if claiming spouse's exemption | Born before January 2, 1944 □ | Blind □ | ||||
| Total number of boxes you checked ____ | ||||||
| 1. | Enter your earned income (defined below). If none, enter -0- | 1. | ||||
| 2. | Additional amount | 2. | $300 | |||
| 3. | Add lines 1 and 2 | 3. | ||||
| 4. | Minimum standard deduction | 4. | $900 | |||
| 5. | Enter the larger of line 3 or line 4 | 5. | ||||
| 6. | Enter the amount shown below for your filing status.
| 6. | ||||
| 7. | Standard deduction. | |||||
| a. | Enter the smaller of line 5 or line 6. If born after January 1, 1944, and not blind, stop here. This is your standard deduction. Otherwise, go on to line 7b. | 7a. | ||||
| b. | If born before January 2, 1944, or blind, multiply $1,350 ($1,050 if married) by the number in the box above. | 7b. | ||||
| c. | Add lines 7a and 7b. This is your standard deduction for 2008. | 7c. | ||||
| Earned income includes wages, salaries, tips, professional fees, and other compensation received for personal services you performed. It also includes any amount received as a scholarship that you must include in your income. |
| *Use this worksheet ONLY if someone else can claim an exemption for you (or your spouse if married filing jointly). |
| For 2008 you can increase your standard deduction, figured using these tables, by your real property tax (limited to $500 ($1,000 if married filing jointly)) and net disaster loss that you could claim as part of your standard deduction. | |
| Caution: If you are married filing a separate return and your spouse itemizes deductions, or if you are a dual-status alien, you cannot take the standard deduction even if you were born before January 2, 1943, or you are blind. |
| IF your filing status is . . . | THEN your standard deduction is . . . |
| Single or Married filing separately | $5,350 |
| Married filing joint return or Qualifying widow(er) with dependent child | 10,700 |
| Head of household | 7,850 |
| * DO NOT use this chart if you were born before January 2, 1943, or you are blind, OR if someone else can claim an exemption for you (or your spouse if married filing jointly). Use Table II or III instead. |
| Check the correct number of boxes below. Then go to the chart. | ||
| You | Born before January 2, 1943 □ | Blind □ |
| Your spouse, if claiming spouse's exemption | Born before January 2, 1943 □ | Blind □ |
| Total number of boxes you checked ____ | ||
| IF your filing status is . . . | AND the number on the line above is . . . | THEN your standard deduction is . . . |
| Single | 1 2 | $6,650 7,950 |
| Married filing joint return or Qualifying widow(er) with dependent child | 1 2 3 4 | 11,750 12,800 13,850 14,900 |
| Married filing separate return | 1 2 3 4 | 6,400 7,450 8,500 9,550 |
| Head of household | 1 2 | 9,150 10,450 |
| *If someone else can claim an exemption for you (or your spouse if married filing jointly), use Table III instead. |
| If you were born before January 2, 1943, or you were blind, check the correct number of boxes below. Then go to the worksheet. | ||||||
| You | Born before January 2, 1943 □ | Blind □ | ||||
| Your spouse, if claiming spouse's exemption | Born before January 2, 1943 □ | Blind □ | ||||
| Total number of boxes you checked ____ | ||||||
| 1. | Enter your earned income (defined below). If none, enter -0- | 1. | ||||
| 2. | Additional amount | 2. | $300 | |||
| 3. | Add lines 1 and 2 | 3. | ||||
| 4. | Minimum standard deduction | 4. | $850 | |||
| 5. | Enter the larger of line 3 or line 4 | 5. | ||||
| 6. | Enter the amount shown below for your filing status.
| 6. | ||||
| 7. | Standard deduction. | |||||
| a. | Enter the smaller of line 5 or line 6. If born after January 1, 1943, and not blind, stop here. This is your standard deduction. Otherwise, go on to line 7b. | 7a. | ||||
| b. | If born before January 2, 1943, or blind, multiply $1,300 ($1,050 if married) by the number in the box above. | 7b. | ||||
| c. | Add lines 7a and 7b. This is your standard deduction for 2007. | 7c. | ||||
| Earned incomeincludes wages, salaries, tips, professional fees, and other compensation received for personal services you performed. It also includes any amount received as a scholarship that you must include in your income. |
| *Use this worksheet ONLY if someone else can claim an exemption for you (or your spouse if married filing jointly). |
| Caution: If you are married filing a separate return and your spouse itemizes deductions, or if you are a dual-status alien, you cannot take the standard deduction even if you were born before January 2, 1942, or you are blind. |
| IF your filing status is . . . | THEN your standard deduction is . . . |
| Single or Married filing separately | $5,150 |
| Married filing joint return or Qualifying widow(er) with dependent child | 10,300 |
| Head of household | 7,550 |
| * DO NOT use this chart if you were born before January 2, 1942, or you are blind, OR if someone else can claim an exemption for you (or your spouse if married filing jointly). Use Table II or III instead. |
| Check the correct number of boxes below. Then go to the chart. | ||
| You | Born before January 2, 1942□ | Blind □ |
| Your spouse, if claiming spouse's exemption | Born before January 2, 1942□ | Blind □ |
| Total number of boxes you checked _____ | ||
| IF your filing status is . . . | AND the number on the line above is . . . | THEN your standard deduction is . . . |
| Single | 1 2 | $6,400 7,650 |
| Married filing joint return or Qualifying widow(er) with dependent child | 1 2 3 4 | 11,300 12,300 13,300 14,300 |
| Married filing separate return | 1 2 3 4 | 6,150 7,150 8,150 9,150 |
| Head of household | 1 2 | 8,800 10,050 |
| *If someone else can claim an exemption for you (or your spouse if married filing jointly), use Table III instead. |
| If you were born before January 2, 1942, or you were blind, check the correct number of boxes below. Then go to the worksheet. | ||||||
| You | Born before January 2, 1942□ | Blind □ | ||||
| Your spouse, if claiming spouse's exemption | Born before January 2, 1942 □ | Blind □ | ||||
| Total number of boxes you checked ____ | ||||||
| 1. | Enter your earned income (defined below). If none, enter -0- | 1. | ||||
| 2. | Additional amount | 2. | $300 | |||
| 3. | Add lines 1 and 2 | 3. | ||||
| 4. | Minimum standard deduction | 4. | $850 | |||
| 5. | Enter the larger of line 3 or line 4 | 5. | ||||
| 6. | Enter the amount shown below for your filing status.
| 6. | ||||
| 7. | Standard deduction. | |||||
| a. | Enter the smaller of line 5 or line 6. If born after January 1, 1942, and not blind, stop here. This is your standard deduction. Otherwise, go on to line 7b. | 7a. | ||||
| b. | If born before January 2, 1942, or blind, multiply $1,250 ($1,000 if married) by the number in the box above. | 7b. | ||||
| c. | Add lines 7a and 7b. This is your standard deduction for 2006. | 7c. | ||||
| Earned incomeincludes wages, salaries, tips, professional fees, and other compensation received for personal services you performed. It also includes any amount received as a scholarship that you must include in your income. |
| *Use this worksheet ONLY if someone else can claim an exemption for you (or your spouse if married filing jointly). |
Eileen Martin is single. She had an AGI of $1,156,400 and itemized her deductions on Schedule A (Form 1040) for 2008. She was not subject to alternative minimum tax and was not entitled to any credit against income tax. Her only allowable deduction was $40,000 of state income taxes. Her state general sales tax was $20,000. Eileen deducted only $20,000 of her state income taxes in 2008 because her otherwise allowable deductions of $40,000 were reduced by $20,000. In 2009, she received a $5,000 refund of her state income taxes for 2008.
The following shows how Eileen figured the $20,000 reduction and other amounts from the Itemized Deduction Worksheet in the 2008 Schedule A (Form 1040) instructions. These amounts are needed to figure the part of the $5,000 refund that Eileen must include in her income for 2009.
| AGI for 2008 | $1,156,400 | ||
| State income taxes paid in 2008 | $40,000 | ||
| 3% reduction (amount on 2008 Itemized Deduction Worksheet, line 8) [($1,156,400 − $156,400) × 3%] | $30,000 | ||
| 80% reduction (amount on 2008 Itemized Deduction Worksheet, line 4) ($40,000 × 80%) | $32,000 | ||
| Lesser of 3% reduction or 80% reduction | $30,000 | ||
| Limit reduced (1/3) | −$10,000 | ||
| 2008 deduction (amount on 2008 Itemized Deduction Worksheet, line 12) ($40,000 − $20,000) | $20,000 | ||
| Refund received in 2009 of 2008 state income tax | $5,000 | ||
| Net amount of 2008 state income tax ($40,000 − $5,000) | $35,000 |
If Eileen had used the $35,000 net amount of state income tax to figure her itemized deductions for 2008, the deduction allowed would have been $16,333. This is her otherwise allowable deduction of $35,000 reduced by $18,667 (($35,000 × 80% = $28,000) − ($28,000 ÷ 3.0)). By deducting the full $20,000 paid in 2008, she derived a tax benefit of $3,667 ($20,000 − $16,333). Therefore, only $3,667 of the $5,000 refund is included in her income for 2009.
If you recover an item deducted in an earlier year in which you had unused tax credits, you must refigure the earlier year's tax to determine if you must include the recovery in your income. To do this, add the amount of the recovery to your earlier year's taxable income and refigure the tax and the credits on the recomputed amount. If the recomputed tax, after application of the credits, is more than the actual tax in the earlier year, include the recovery in your income up to the amount of the deduction that reduced the tax in the earlier year. For this purpose, any increase to a credit carried over to the current year that resulted from deducting the recovered amount in the earlier year is considered to have reduced your tax in the earlier year. If the recovery is for an itemized deduction claimed in a year in which the deductions were limited, see Itemized deductions limited, earlier. If your tax, after application of the credits, does not change, you did not have a tax benefit from the deduction. Do not include the recovery in your income.
In 2008, Jean Black filed as head of household and itemized her deductions on Schedule A (Form 1040). Her taxable income was $5,260 and her tax was $528. She claimed a child care credit of $1,200. The credit reduced her tax to zero and she had an unused tax credit of $672 ($1,200 − $528). In 2009, Jean recovered $1,000 of her itemized deductions. She reduces her 2008 itemized deductions by $1,000 and recomputes that year's tax on taxable income of $6,260. However, the child care credit exceeds the recomputed tax of $628. Jean's tax liability for 2008 is not changed by reducing her deductions by the recovery. She did not have a tax benefit from the recovered deduction and does not include any of the recovery in her income for 2009.
If you were subject to the alternative minimum tax in the year of the deduction, you will have to recompute your tax for the earlier year to determine if the recovery must be included in your income. This will require a recomputation of your regular tax, as shown in the preceding example, and a recomputation of your alternative minimum tax. If inclusion of the recovery does not change your total tax, you do not include the recovery in your income. However, if your total tax increases by any amount, you received a tax benefit from the deduction and you must include the recovery in your income up to the amount of the deduction that reduced your tax in the earlier year.
This section discusses recovery of deductions other than itemized deductions.
If you recover an amount that you deducted in an earlier year in figuring your adjusted gross income, you generally must include the full amount of the recovery in your income in the year received.
If any part of the deduction you took for the recovered amount did not reduce your tax, you may be able to exclude at least part of the recovery from your income. You must include the recovery in your income only up to the amount of the deduction that reduced your tax in the year of the deduction. (See Tax benefit rule, earlier.)
If your taxable income for the prior year was a negative amount, the recovery you must include in income is reduced by that amount. You have a negative taxable income for 2008 if your:
If you recover an item deducted in an earlier year in which you had unused tax credits, you must refigure the earlier year's tax to determine if you must include the recovery in your income. To do this, add the amount of the recovery to your earlier year's taxable income and refigure the tax and the credits on the recomputed amount. If the recomputed tax, after application of the credits, is more than the actual tax in the earlier year, include the recovery in your income up to the amount of the deduction that reduced the tax in the earlier year. For this purpose, any increase to a credit carried over to the current year that resulted from deducting the recovered amount in the earlier year is considered to have reduced your tax in the earlier year. If your tax, after application of the credits, does not change, you did not have a tax benefit from the deduction. Do not include the recovery in your income.
If you received a recovery in 2009 for an item for which you claimed a tax credit in an earlier year, you must increase your 2009 tax by the amount of the recovery, up to the amount by which the credit reduced your tax in the earlier year. You had a recovery if there was a downward price adjustment or similar adjustment on the item for which you claimed a credit.
This rule does not apply to the investment credit or the foreign tax credit. Recoveries of these credits are covered by other provisions of the law. See Publication 514, Foreign Tax Credit for Individuals, or Form 4255, Recapture of Investment Credit, for details.
Generally, payments made by or for an employer because of an employee's death must be included in income. The following discussions explain the tax treatment of certain payments made to survivors. For additional information, see Publication 559.
Lump-sum payments you receive from a decedent's employer as the surviving spouse or beneficiary may be accrued salary payments; distributions from employee profit-sharing, pension, annuity, or stock bonus plans; or other items that should be treated separately for tax purposes. The tax treatment of these lump-sum payments depends on the type of payment.
Salary or wages received after the death of the employee are usually ordinary income to you.
The tax treatment of unemployment benefits you receive depends on the type of program paying the benefits.
Unemployment compensation generally includes any amount received under an unemployment compensation law of the United States or of a state. It includes the following benefits.
If you contribute to a governmental unemployment compensation program and your contributions are not deductible, amounts you receive under the program are not included as unemployment compensation until you recover your contributions. If you deducted all of your contributions to the program, the entire amount you receive under the program is included in your income.
Benefits paid to you as an unemployed member of a union from regular union dues are included in your income on Form 1040, line 21. However, if you contribute to a special union fund and your payments to the fund are not deductible, the unemployment benefits you receive from the fund are includible in your income only to the extent they are more than your contributions.
Do not include in your income governmental benefit payments from a public welfare fund based upon need, such as payments due to blindness. Payments from a state fund for the victims of crime should not be included in the victims' incomes if they are in the nature of welfare payments. Do not deduct medical expenses that are reimbursed by such a fund. You must include in your income any welfare payments that are compensation for services or that are obtained fraudulently.
Payments you receive from a state welfare agency for taking part in a work-training program are not included in your income, as long as the payments (exclusive of extra allowances for transportation or other costs) do not total more than the public welfare benefits you would have received otherwise. If the payments are more than the welfare benefits you would have received, the entire amount must be included in your income as wages.
If you have a disability, you must include in income compensation you receive for services you perform unless the compensation is otherwise excluded. However, you do not include in income the value of goods, services, and cash that you receive, not in return for your services, but for your training and rehabilitation because you have a disability. Excludable amounts include payments for transportation and attendant care, such as interpreter services for the deaf, reader services for the blind, and services to help mentally retarded persons do their work.
Do not include post-disaster grants received under the Disaster Relief and Emergency Assistance Act in your income if the grant payments are made to help you meet necessary expenses or serious needs for medical, dental, housing, personal property, transportation, or funeral expenses. Do not deduct casualty losses or medical expenses that are specifically reimbursed by these disaster relief grants. If you have deducted a casualty loss for the loss of your personal residence and you later receive a disaster relief grant for the loss of the same residence, you may have to include part or all of the grant in your taxable income. See Recoveries, earlier. Unemployment assistance payments under the Act are taxable unemployment compensation. See Unemployment compensation under Unemployment Benefits, earlier.
You can exclude from income any amount you receive that is a qualified disaster relief payment. A qualified disaster relief payment is an amount paid to you:
For amounts paid under item (4), a disaster is qualified if it is determined by an applicable federal, state, or local authority to warrant assistance from the federal, state, or local government, agency, or instrumentality.
You also can exclude from income any amount you receive that is a qualified disaster mitigation payment. Like qualified disaster relief payments, qualified disaster mitigation payments are also most commonly paid to you in the period immediately following damage to property as a result of a natural disaster. However, disaster mitigation payments are grants you use to mitigate (reduce the severity of) potential damage from future natural disasters. They are paid to you through state and local governments based on the provisions of the Robert T. Stafford Disaster Relief and Emergency Assistance Act or the National Flood Insurance Act. You cannot increase the basis or adjusted basis of your property for improvements made with nontaxable disaster mitigation payments.
If you benefit from Pay-for-Performance Success Payments under HAMP, the payments are not taxable.
Payments made under section 235 of the National Housing Act for mortgage assistance are not included in the homeowner's income. Interest paid for the homeowner under the mortgage assistance program cannot be deducted.
Replacement housing payments made under the Uniform Relocation Assistance and Real Property Acquisition Policies Act for Federal and Federally Assisted Programs are not includible in gross income, but are includible in the basis of the newly acquired property.
A relocation payment under section 105(a)(11) of the Housing and Community Development Act made by a local jurisdiction to a displaced individual moving from a flood-damaged residence to another residence is not includible in gross income. Home rehabilitation grants received by low-income homeowners in a defined area under the same act are also not includible in gross income.
Nonreimbursable grants under title IV of the Indian Financing Act of 1974 to Indians to expand profit-making Indian-owned economic enterprises on or near reservations are not includible in gross income.
Medicare benefits received under title XVIII of the Social Security Act are not includible in the gross income of the individuals for whom they are paid. This includes basic (part A (Hospital Insurance Benefits for the Aged)) and supplementary (part B (Supplementary Medical Insurance Benefits for the Aged)).
OASDI payments under section 202 of title II of the Social Security Act are not includible in the gross income of the individuals to whom they are paid. This applies to old-age insurance benefits, and insurance benefits for wives, husbands, children, widows, widowers, mothers and fathers, and parents, as well as the lump-sum death payment.
Food benefits you receive under the Nutrition Program for the Elderly are not taxable. If you prepare and serve free meals for the program, include in your income as wages the cash pay you receive, even if you are also eligible for food benefits.
Payments made by a state to qualified people to reduce their cost of winter energy use are not taxable.
The following brief discussions are arranged in alphabetical order. Income items that are discussed in greater detail in another publication include a reference to that publication.
A below-market loan is a loan on which no interest is charged or on which the interest is charged at a rate below the applicable federal rate. If you make a below-market gift or demand loan, you must include the forgone interest (at the federal rate) as interest income on your return. These loans are considered a transaction in which you, the lender, are treated as having made:
If you receive a bribe, include it in your income.
Do not include in your income amounts you receive from the passengers for driving a car in a car pool to and from work. These amounts are considered reimbursement for your expenses. However, this rule does not apply if you have developed car pool arrangements into a profit-making business of transporting workers for hire.
If you received a voucher to be applied toward the purchase of a qualified new vehicle in exchange for the trade-in of an eligible used vehicle, the amount of the voucher is not considered income. However, your basis in the new vehicle must be reduced by the amount of the voucher.
A cash rebate you receive from a dealer or manufacturer of an item you buy is not income, but you must reduce your basis by the amount of the rebate.
You buy a new car for $24,000 cash and receive a $2,000 rebate check from the manufacturer. The $2,000 is not income to you. Your basis in the car is $22,000. This is the basis on which you figure gain or loss if you sell the car and depreciation if you use it for business.
To determine if settlement amounts you receive by compromise or judgment must be included in your income, you must consider the item that the settlement replaces. The character of the income as ordinary income or capital gain depends on the nature of the underlying claim. Include the following as ordinary income.
Do not include in your income compensatory damages for personal physical injury or physical sickness (whether received in a lump sum or installments).
Emotional distress itself is not a physical injury or physical sickness, but damages you receive for emotional distress due to a physical injury or sickness are treated as received for the physical injury or sickness. Do not include them in your income. If the emotional distress is due to a personal injury that is not due to a physical injury or sickness (for example, unlawful discrimination or injury to reputation), you must include the damages in your income, except for any damages you receive for medical care due to that emotional distress. Emotional distress includes physical symptoms that result from emotional distress, such as headaches, insomnia, and stomach disorders.
If you receive damages under a written binding agreement, court decree, or mediation award that was in effect (or issued on or before) September 13, 1995, do not include in income any of those damages received on account of personal injuries or sickness.
If you purchase a home and receive assistance from a nonprofit corporation to make the down payment, that assistance is not included in your income. If the corporation qualifies as a tax-exempt charitable organization, the assistance is treated as a gift and is included in your basis of the house. If the corporation does not qualify, the assistance is treated as a rebate or reduction of the purchase price and is not included in your basis.
If you received an economic recovery payment, such as the payments of $250 made to certain recipients of social security, SSI, railroad retirement, or certain veterans' benefits, it is not taxable for federal income tax purposes, but it reduces any making work pay credit or government retiree credit.
If you get a job through an employment agency, and the fee is paid by your employer, the fee is not includible in your income if you are not liable for it. However, if you pay it and your employer reimburses you for it, it is includible in your income.
You can exclude from gross income any subsidy provided, either directly or indirectly, by public utilities for the purchase or installation of an energy conservation measure for a dwelling unit.
This includes installations or modifications that are primarily designed to reduce consumption of electricity or natural gas, or improve the management of energy demand.
This includes a house, apartment, condominium, mobile home, boat, or similar property. If a building or structure contains both dwelling and other units, any subsidy must be properly allocated.
If you are the beneficiary of an estate or trust that must distribute all of its current income, you must report your share of the distributable net income, whether or not you actually received it.
If you are the beneficiary of an estate or trust and the fiduciary has the choice of whether to distribute all or part of the current income, you must report:
up to the amount of your share of distributable net income.
Treat each item of income the same way that the estate or trust would treat it. For example, if a trust's dividend income is distributed to you, you report the distribution as dividend income on your return. The same rule applies to distributions of tax-exempt interest and capital gains. The fiduciary of the estate or trust must tell you the type of items making up your share of the estate or trust income and any credits you are allowed on your individual income tax return.
Losses of estates and trusts generally are not deductible by the beneficiaries.
Income earned by a grantor trust is taxable to the grantor, not the beneficiary, if the grantor keeps certain control over the trust. (The grantor is the one who transferred property to the trust.) This rule applies if the property (or income from the property) put into the trust will or may revert (be returned) to the grantor or the grantor's spouse. Generally, a trust is a grantor trust if the grantor has a reversionary interest valued (at the date of transfer) at more than 5% of the value of the transferred property.
If your personal expenses are paid for by another person, such as a corporation, the payment may be taxable to you depending upon your relationship with that person and the nature of the payment. But if the payment makes up for a loss caused by that person, and only restores you to the position you were in before the loss, the payment is not includible in your income.
If you are a qualified taxpayer you can contribute all or part of your qualified settlement income, up to $100,000, to an eligible retirement plan, including an IRA. Contributions to eligible retirement plans, other than a Roth IRA or a designated Roth contribution, reduce the qualified settlement income that you must include in income. See Statement, later. For more information on these contributions, see Publications 560, 575, and 590.
Include all fees for your services in your income. Examples of these fees are amounts you receive for services you perform as:
If you operate a daycare service and receive payments under the Child and Adult Care Food Program administered by the Department of Agriculture that are not for your services, the payments generally are not included in your income. However, you must include in your income any part of the payments you do not use to provide food to individuals eligible for help under the program.
If you have a gain on a personal foreign currency transaction because of changes in exchange rates, you do not have to include that gain in your income unless it is more than $200. If the gain is more than $200, report it as a capital gain.
Payments you receive from a state, political subdivision, or a qualified foster care placement agency for providing care to qualified foster individuals in your home generally are not included in your income. However, you must include in your income payments received for the care of more than 5 individuals age 19 or older and certain difficulty-of-care payments. A qualified foster individual is a person who:
These are additional payments that are designated by the payer as compensation for providing the additional care that is required for physically, mentally, or emotionally handicapped qualified foster individuals. A state must determine that the additional compensation is needed, and the care for which the payments are made must be provided in your home. You must include in your income difficulty-of-care payments received for more than:
If you are paid to maintain space in your home for emergency foster care, you must include the payment in your income.
If you find and keep property that does not belong to you that has been lost or abandoned (treasure-trove), it is taxable to you at its fair market value in the first year it is your undisputed possession.
Winnings from lotteries and raffles are gambling winnings. In addition to cash winnings, you must include in your income the fair market value of bonds, cars, houses, and other noncash prizes. However, the difference between the fair market value and the cost of an oil and gas lease obtained from the government through a lottery is not includible in income.
Generally, property you receive as a gift, bequest, or inheritance is not included in your income. However, if property you receive this way later produces income such as interest, dividends, or rents, that income is taxable to you. If property is given to a trust and the income from it is paid, credited, or distributed to you, that income is also taxable to you. If the gift, bequest, or inheritance is the income from the property, that income is taxable to you.
If you receive cash or other property as a bequest for services you performed while the decedent was alive, the value is taxable compensation.
Do not include in your income any payment you receive under the National Historic Preservation Act to preserve a historically significant property.
Losses from a hobby are not deductible from other income. A hobby is an activity from which you do not expect to make a profit. See Activity not for profit, earlier, under Other Income. If you collect stamps, coins, or other items as a hobby for recreation and pleasure, and you sell any of the items, your gain is taxable as a capital gain. However, if you sell items from your collection at a loss, you cannot deduct the loss.
Restitution payments you receive as a Holocaust victim (or the heir of a Holocaust victim) and interest earned on the payments are not taxable. Excludable interest is earned by escrow accounts or settlement funds established for holding funds prior to the settlement. You also do not include the restitution payments and interest the funds earned prior to disbursement in any computations in which you ordinarily would add excludable income to your adjusted gross income, such as the computation to determine the taxable part of social security benefits. If the payments are made in property, your basis in the property is its fair market value when you receive it. Excludable restitution payments are payments or distributions made by any country or any other entity because of persecution of an individual on the basis of race, religion, physical or mental disability, or sexual orientation by Nazi Germany, any other Axis regime, or any other Nazi-controlled or Nazi-allied country, whether the payments are made under a law or as a result of a legal action. They include compensation or reparation for property losses resulting from Nazi persecution, including proceeds under insurance policies issued before and during World War II by European insurance companies.
If you are a member of a qualified Indian tribe that has fishing rights secured by treaty, executive order, or an Act of Congress as of March 17, 1988, do not include in your income amounts you receive from activities related to those fishing rights. The income is not subject to income tax, self-employment tax, or employment taxes.
In general, you exclude from your income the amount of interest earned on a frozen deposit. A deposit is frozen if, at the end of the calendar year, you cannot withdraw any part of the deposit because:
The amount of interest you exclude from income for the year is the interest that was credited on the frozen deposit for that tax year minus the sum of:
The excluded part of the interest is included in your income in the tax year it becomes withdrawable.
If a prospective employer asks you to appear for an interview and either pays you an allowance or reimburses you for your transportation and other travel expenses, the amount you receive generally is not taxable. You include in income only the amount you receive that is more than your actual expenses.
You sell cars and help arrange car insurance for buyers. Insurance brokers pay back part of their commissions to you for referring customers to them. You must include the kickbacks in your income.
You sell cars for an automobile dealership and receive incentive payments from the automobile manufacturer every time you sell a particular model of car. You report the incentive payments on Form 1040, line 21.
Cash awards or bonuses given to you by your employer for good work or suggestions generally must be included in your income as wages. However, certain noncash employee achievement awards can be excluded from income. See Bonuses and awards under Miscellaneous Compensation, earlier.
If you are a salesperson and receive prize points redeemable for merchandise, that are awarded by a distributor or manufacturer to employees of dealers, you must include their fair market value in your income. The prize points are taxable in the year they are paid or made available to you, rather than in the year you redeem them for merchandise.
If you were awarded a prize in recognition of accomplishments in religious, charitable, scientific, artistic, educational, literary, or civic fields, you generally must include the value of the prize in your income. However, you do not include this prize in your income if you meet all of the following requirements.
These rules do not apply to scholarship or fellowship awards. See Scholarships and fellowships, later.
If you receive a reward for providing information, include it in your income.
A candidate for a degree can exclude amounts received as a qualified scholarship or fellowship. A qualified scholarship or fellowship is any amount you receive that is for:
Allowances paid by the Department of Veterans Affairs are not included in your income. These allowances are not considered scholarship or fellowship grants.
Social security or equivalent railroad retirement benefits, if taxable, must be included in the income of the person who has the legal right to receive the benefits. Whether any of your benefits are taxable, and the amount that is taxable, depends on the amount of the benefits and your other income. Social security benefits include any monthly benefit under Title II of the Social Security Act and any part of a tier I railroad retirement benefit treated as a social security benefit. Social security benefits do not include any supplemental security income (SSI) payments.
If you are married and file a joint return, you and your spouse must combine your incomes and your social security and equivalent railroad retirement benefits when figuring whether any of your combined benefits are taxable. Even if your spouse did not receive any benefits, you must add your spouse's income to yours when figuring if any of your benefits are taxable.
If you steal property, you must report its fair market value in your income in the year you steal it unless in the same year, you return it to its rightful owner.
Do not include in your income a school board mileage allowance for taking children to and from school if you are not in the business of taking children to school. You cannot deduct expenses for providing this transportation.
Benefits paid to you by a union as strike or lockout benefits, including both cash and the fair market value of other property, usually are included in your income as compensation. You can exclude these benefits from your income only when the facts clearly show that the union intended them as gifts to you.
If you are a delegate of your local union chapter and you attend the annual convention of the international union, do not include in your income amounts you receive from the international union to reimburse you for expenses of traveling away from home to attend the convention. You cannot deduct the reimbursed expenses, even if you are reimbursed in a later year. If you are reimbursed for lost salary, you must include that reimbursement in your income.
If you are a customer of an electric utility company and you participate in the utility's energy conservation program, you may receive on your monthly electric bill either:
The amount of the rate reduction or nonrefundable credit is not included in your income.
If you receive a whistleblower's award from the Internal Revenue Service, you must include it in your income. Any deduction allowed for attorney fees and court costs paid by you, or on your behalf, in connection with the award are deducted as an adjustment to income, but cannot be more than the amount included in income for the tax year.
If you had to repay an amount that you included in your income in an earlier year, you may be able to deduct the amount repaid from your income for the year in which you repaid it. Or, if the amount you repaid is more than $3,000, you may be able to take a credit against your tax for the year in which you repaid it. Generally, you can claim a deduction or credit only if the repayment qualifies as an expense or loss incurred in your trade or business or in a for-profit transaction.
If the amount you repaid was more than $3,000, you can deduct the repayment (as explained earlier under Type of deduction). However, you can choose instead to take a tax credit for the year of repayment if you included the income under a claim of right. This means that at the time you included the income, it appeared that you had an unrestricted right to it. If you qualify for this choice, figure your tax under both methods and compare the results. Use the method (deduction or credit) that results in less tax.
Figure your tax for 2009 claiming a credit for the repaid amount. Follow these steps.
For 2008 you filed a return and reported your income on the cash method. In 2009 you repaid $5,000 included in your 2008 income under a claim of right. Your filing status in 2009 and 2008 is single. Your income and tax for both years are as follows:
| 2008 | ||||
| With Income | Without Income | |||
| Taxable Income | $15,000 | $10,000 | ||
| Tax | $1,853 | $1,103 | ||
| 2009 | ||||
| Without Deduction | With Deduction | |||
| Taxable Income | $49,950 | $44,950 | ||
| Tax | $8,681 | $7,431 |
Your tax under method 1 is $7,431. Your tax under method 2 is $7,931, figured as follows:
| Tax previously determined for 2008 | $1,853 | |
| Less: Tax as refigured | − 1,103 | |
| Decrease in 2008 tax | $750 | |
| Regular tax liability for 2009 | $8,681 | |
| Less: Decrease in 2008 tax | − 750 | |
| Refigured tax for 2009 | $7,931 |
You pay less tax using method 1, so you should take a deduction for the repayment in 2009.
This discussion does not apply to:
If you use the cash method, you can take the deduction (or credit, if applicable) for the tax year in which you actually make the repayment. If you use any other accounting method, you can deduct the repayment or claim a credit for it only for the tax year in which it is a proper deduction under your accounting method. For example, if you use an accrual method, you are entitled to the deduction or credit in the tax year in which the obligation for the repayment accrues.
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