10+ Sources of Tax Free Income

There isn’t much the U.S. government doesn’t tax. They want their cut of every bit of income you make. Your salary, wages, commissions, tips, interest on savings, dividends are all considered taxable income. Even if you do your civic duty and serve on a jury, Uncle Sam wants his cut of the measly few dollars a day you earn while doing that.

There’s no escaping the governments outstretched hand. The IRS is hell bent on getting their cut of every dollar you bring in. Or are they? In fact there ARE some situations where certain types of income are partially taxed or not taxed at all.

Most of the time when you receive a gift it is considered taxable income. If you get a bonus at the end of the year from your employer, that cash or gift is considered income and therefore taxable. There is one type of gift that Uncle Sam can’t take his cut from.

The IRS allows a person to give an unlimited number of $14,000 gifts of cash each year; they call it the annual exclusion.  For example if you give someone $25,000, the first $14,000 of it is tax free, but you (the donor) must pay gift tax on the remaining $11,000.

Couples can give away even more. They can double their annual exclusion to $28,000 ($14,000 x 2) per donor per year. For example your parents can give you $28,000 and your wife $28,000 tax free once each year, for a total of $56,000. That’s more than enough for a down payment on a $280,000 house!

While that is a pleasant scenario in which money you receive isn’t taxed, there are some other less fortunate ways to receive tax free money.  That doesn’t involve having a rich uncle.

If you are awarded money for physical injuries or sickness you received, the government cannot take any of that money. Same goes for workman’s compensation. If you are injured on the job and can’t work, the government can’t tax your disability benefits. Any damages you receive for emotional distress are also considered tax free income.  In most instances any disability benefits you receive, as long you paid the premiums on the policy with after tax dollars, aren’t able to be taxed by Uncle Sam.

Another unpleasant way to save money on your taxes is to offset any income you’ve earned with capital losses. If you sell any investment at a loss, you can use your loss to reduce your taxable income by up to $3,000 a year.

Capital losses can even be carried over from year to year until the entire loss has been offset. For example, if you sold investments at a loss of $9,000, you could subtract $3,000 from your taxable income on your tax return this year, $3,000 from your income on your tax return next year and the remaining $3,000 from your tax return the following year.

Health Savings Accounts (HSA) provide a triple tax advantage. HSA’s are tax advantaged medical savings accounts that allow you to pay for health care expenses now and anytime down the road. The funds you contribute yearly to an HSA are not subject to federal income tax and any interest you earn on the money in your account is tax-deferred. Additionally, funds in the account can be withdrawn federally tax free at any time to pay for “qualified medical expenses”.

Adopting a child is not only a wonderful thing to do, but also a tax exempt situation. Any reimbursements you receive for qualified adoption expenses won’t be taxed. Qualified expenses include court costs, attorney fees, traveling expenses (including amounts spent for meals and lodging while away from home), and other expenses directly related to the legal adoption of an eligible child.

Foster parents can benefit too. Any payments they receive to help care for a foster child isn’t taxable by the government.

Staying on the topic of children…any child support payments you receive are also considered tax free income. When calculating your gross income do not include child support payments received.

Students can also earn tax free dollars. Any scholarship or grant money they receive to get their degree and used to pay tuition, fees, buy books or other required equipment is considered tax free income. Careful though, grant money used for room and board is taxable.

Another great way to earn tax free income is by buying municipal bonds.  The interested earned on these bonds are not subject to federal income tax.

These examples are not all-inclusive. So if you have an unusual income situation, check out the IRS rules with your tax adviser. You may or may not have to pay taxes on the money.

Keeping Money in Your Pocket,

Nancy Patterson