“Other income” is the type of vague phrase that makes people hate the tax code. When all the other types of income on the Form 1040 are exhausted, you have this sink in the form of other income. As with many things in life, the term “other income” is inadequate to properly demonstrate the steps necessary to understand the problem. What you really need are examples of the types of other income the IRS is referring to. And that is exactly what this article is, a recitation of examples of lesser known sources of income. So, behold! This is what “other income” actually means. Enjoy.
If you trade either goods or services with someone, you must pay taxes on the value of the transaction. So, if I offer to mow your lawn 20 times in exchange for your services in painting my house, then we both owe taxes on that barter. As a metric, the goods or services are valued at their dollar fair market value. Using the previous example, if an average lawn service charges $35 to mow a lawn and you mow your neighbor’s lawn 20 times, then the value of the services he received is $700. The same would be true for painting your house. Look to the average value of that service in the community. Furthermore, generally you report bartering income on Schedule C, Profit or Loss from Business.
As I touched on in the article on canceled student loan debt, canceled debt is considered income to the person whose debt was canceled. There are exceptions, but they are generally rare. Cancellation of debt is just as it sounds; a creditor, for whatever reason, decides to absolve you of paying outstanding debt that you would otherwise be responsible for paying back. However, if the debt is canceled and is deemed a gift, then it creates no taxable income, but a soulless corporation or bank cannot give you a gift, so don’t kid yourself. The gift exception mainly pertains to money owed to family or friends, in other words, people close to you. If the debt is a business debt, report it on Schedule C; if it’s a personal debt, report it on Schedule 1, line 8. Finally, if the debt cancellation stems from a financial institution, you’ll receive a Form 1099-C, Cancellation of Debt, indicating the amount of debt cancelled and its description, among other information. Treat Form 1099-C as you would any other Form 1099 indicating income, and report on Schedule 1, line 8.
Hosting a Party
If you host a party and there are sales made at the party, so for example, a Tupperware party, and you receive compensation in the form of gratuity or a gift, then you must report this amount on Schedule 1, line 8. However, you may deduct 50% of the amount spent on food associated with the party, but you may not deduct any other expenses associated.
Life Insurance Proceeds
While a life insurance payout is not taxable to the recipient if the contract is still outstanding on the insured when he or she passes away, life insurance policies are taxable to the recipient of proceeds if directly purchased from the insured as a business arrangement. For example, if I’m insured through a life insurance policy, and I sell my policy for an amount to a company that promises to pay the premiums and get the payout when I die, those proceeds are taxable to the company when they come in. The amount I received when I sold the policy is also taxable to me in the amount that eclipses the total I have paid in premiums up to the date of sale. If you’re in the business of buying life insurance policies, report any income made on Schedule C. If you’ve sold your life insurance policy to a buyer, report any income derived from that sale on Schedule 1, line 8.
Endowment Contract Proceeds
Endowment contracts are essentially annuities, under which you pay in a certain amount, and then by a certain date in the future payments are made to until you die. Installment payment amounts are taxable to the extent that they are greater than your initial investment in the contract. So, if I purchase an annuity for $500,000, and twenty years later, after many monthly installment payments, I have received my full initial payment of $500,000 returned to me, then any installment I receive after this point is taxable. Report these amounts on Schedule 1, line 8.
Accelerated Death Benefits
Accelerated death benefits are just as they sound, they are an early payment or payments under an insurance policy pertaining to terminal or chronic illness. These payments are tax free, as are payments due to the death of the insured. However, they are not tax free if a third party has an interest in the insurance policy. These third parties include directors, officers, and employees of the insured, or any third party that has an interest in the insured person’s business. To claim the exclusion for accelerated death benefits use Form 8853, Archer MSAs and Long-Term Care Insurance Contracts.
Public Safety Officer Killed or Injured in the Line of Duty
For clarity, a public safety officer is a public servant serving as a law enforcement officer, firefighter, chaplain, rescue squad member, or ambulance crew member. If a public safety officer is killed while performing his or her job, then the tax code allows the beneficiaries of his or her estate to inherit his or her governmental section 401(a) plan tax free. Furthermore, a public safety officer that is killed or totally disabled may receive death or disability benefits tax free through the Bureau of Justice Assistance or through a similar state program.
Recoveries are amounts that you must pay back to the government for a tax benefit that turned out to be more or less incorrect due to a change in circumstance in a subsequent year. For example, state income tax refunds are taxable in the year they are received if you deducted those state income taxes on Schedule A, Itemized Deductions, in the previous year. The logic behind this is simple, you claimed that you paid a state a certain amount of taxes and deducted those taxes on your federal return, but then received some of that money back from that same state, so you really didn’t pay that amount to the state in the first place. In this instance you’ll get a Form 1099-G, Certain Government Payments. Basically the general rule is that if you claim a deduction or credit for some tax item in a year, and in a subsequent year recover some or all of the amount claimed as a deduction or credit, such as the state income tax refund in the previous example, the amount recovered must be included in income in the year that recovery was received.
Personal Property Rentals
Personal property, which is basically defined as any physical property other than real estate, generates taxable income if it is rented to a third party. An example of this is a business that rents party equipment, like margarita machines or moon walks. However, you need not be in the business of renting personal property for it to generate taxable income. If you rent any personal property during a tax year, even if you are not in the business of doing it, that income is taxable. If you have a business that rents personal property, then report that income on Schedule C. If you rent personal property but are not in the business of doing so, such as if you rent your car to a friend for a month, then you report the income on Schedule 1, line 8, and deduct the attendant expenses of that activity on Schedule 1, line 22.
In most instances, unemployment compensation is taxable, and therefore, you’ll receive a Form 1099-G, with box 1 indicating the total amount paid to you. You report this amount on Schedule 1, line 7. However, there are some instances where some of what is paid to you in unemployment compensation is not taxable. For example, if you made contributions that were not deducted, the taxable amount paid to you does not include these contributions. Additionally, if you repaid any of your unemployment payments, then those amounts repaid should be deducted from your total in box 1 of Form 1099-G. If repayments are deducted, do so by reporting the net amount paid to you on line 7 of Schedule 1, and write the amount repaid along with the word “Repaid” on the dotted line next to line 7.
If you would like more information on other income, please see IRS Publication 17.
This was fun. If you have any questions about less common types of income, also known as “other income” give Dino Tax Co a call today at (713) 397-4678, or email us at email@example.com. The initial phone consultation is always free. Also, like us on Facebook: www.facebook.com/dinotaxco.