Meaning & Definition
Taxable income is the portion of an individual’s or entity’s income that is subject to taxation by the government. It is the income on which taxes are calculated and paid. In most tax systems, not all income is considered taxable, and various deductions, exemptions, and credits can reduce the taxable income. The specific rules governing taxable income can vary from one country to another, and within countries, they may differ based on the type of income, such as earned income, investment income, or business income.
Key points about taxable income include:
- Types of Income
Taxable income can include various types of income, such as wages and salaries, business profits, interest, dividends, rental income, capital gains, and other sources of earnings. It encompasses both earned income (from employment) and unearned income (from investments and other sources).
- Tax Deductions
Tax laws typically allow individuals and businesses to deduct certain expenses and losses from their total income to arrive at taxable income. Common deductions include mortgage interest, medical expenses, business expenses, and contributions to retirement accounts.
- Tax Exemptions and Credits
Governments often provide exemptions and tax credits that reduce taxable income or tax liability. For example, individuals may be eligible for a tax credit for each dependent child or for higher education expenses.
- Progressive Taxation
Many tax systems use a progressive tax structure, where higher income levels are subject to higher tax rates. As a result, the portion of income that is taxable may vary based on the individual’s total income.
- Taxation of Business Income
Businesses calculate taxable income by deducting legitimate business expenses from their gross income. This includes operational expenses, salaries, and any tax incentives for which they qualify.
- Filing Status
Taxable income may vary depending on the taxpayer’s filing status. For example, married individuals may have different deductions and tax rates compared to single individuals.
- Taxation of Investments
Investment income, such as dividends and capital gains, may have separate tax rules and rates that apply. Taxable income from investments depends on factors like the type of investment, holding period, and the applicable tax laws.
It is important for individuals and businesses to accurately calculate their taxable income and report it to the tax authorities in compliance with the tax laws and regulations in their jurisdiction. Failure to report and pay taxes on taxable income can result in penalties and legal consequences.
Taxable income serves as the basis for calculating the actual tax liability in most tax systems. After determining the taxable income, individuals and entities use the applicable tax rates to calculate the amount of tax they owe to the government.