Income Exclusions

Taxable income on your tax return is all income that is not specifically excluded by statute. The following are some items that are excluded from income.

- Life insurance: Life insurance proceeds paid as a result of the death of the insured are generally excluded from income. It doesn’t matter whether the amounts received are the return of premiums paid, the increase in the value of the policy, or the death benefit feature, all amounts payable upon death are generally excluded. The life insurance contract must meet certain tests under state or foreign law.

- Annuity: Money received as an annuity from an annuity, endowment, or life insurance contract, and paid out for reasons other than death, are excluded from income to the extent of the taxpayer’s basis in the annuity. The tax free amount is spread out over the annuity’s payments evenly.

- Inherited Property: The value of property received by inheritance or bequest is excluded from gross income. Any income flowing from the property is still taxable though.

- Gifts: The value of any gifts received is excluded from income. Any income from the gift is still taxable. Gifts may be taxable to the donor under certain circumstances.

- Health Savings Accounts and Medical Savings Accounts: Contributions to a health savings account are excluded from income. Distributions are not included in income as long as they are used for qualified medical expenses.

- Cafeteria Plans: Employees participating in a cafeteria plan can exclude the benefits from gross income. This includes contributions to a 401(k), accident and health insurance payments, disability coverage, group-term life insurance, and dependent care assistance programs.

- Reimbursed Living Expenses: If a taxpayer has a residence that is damaged due to fire, flood, storm, or other casualty, and has to temporarily live somewhere else, the insurance payments reimbursing the taxpayer for those living expense are excluded from income. This includes costs for suitable housing, as well as extraordinary expenses such as transportation, food, and utilities.

- Scholarships: Students working toward a degree at a qualified educational organization who receive scholarships do not have to include the amount of the scholarship in gross income as long as the scholarship was used for tuition and related fees, books, supplies, and equipment required for classes. Room and board payments are taxable.

- Foster Care Payments: Payments made by a state or a qualified foster care placement agency to foster parents for the expenses of the individuals placed in the home are not included in gross income.

- Military Exemptions: Payments to members of the military for travel, food, housing, and moving are excluded from gross income. Any pay received while serving in a combat zone is also excluded from income.

- Cancellation of Debt: A taxpayer does not need to include in income debts forgiven in bankruptcy or when the taxpayer is insolvent. Generally, however, a taxpayer must report income on any debt forgiven.

- Sale of Principal Residence: As long as you have lived in and maintained your home as your principal residence for at least two of the last five years, the gain from the sale is excluded from income up to $250,000 for individuals and $500,000 for married couples filing a joint return.

- Municipal Bond Interest: The interest you earn from municipal bonds is usually tax free at the federal level and also at the state level if you live in the same state the bonds were issued in.

- Child Support Payments: Payments received for child support are excluded from income by the recipient and not deductible by the payor. Alimony, however, is taxable to the recipient and tax deductible by the payor.