Wages, salaries, and other employee compensation are included in gross income. Employers report annual compensation on Form W‑2, which must be provided to employees by the end of January. Paper filers attach Copy B; e‑filers do not.
If a worker receives Form 1099‑NEC instead of a W‑2 because the employer treated them as a nonemployee, the worker uses Form 8919 to report uncollected Social Security and Medicare tax.
Childcare Providers
Payments received for providing childcare—whether at home or elsewhere—are taxable. Non‑employees report income on Schedule C and include adjustments on Schedule 1. This applies even to occasional babysitting for relatives.
Foreign Income
U.S. citizens and resident aliens must report worldwide income, including wages, tips, interest, dividends, capital gains, pensions, rents, and royalties.
Some taxpayers living abroad may qualify for the foreign earned income exclusion.
Advance Commissions
Under the cash method, advance commissions or payments for future services are included in income when received.
Cost‑of‑Living Allowances
Cost‑of‑living allowances are generally taxable. Exceptions: certain allowances paid to federal civilian or federal court employees stationed in Alaska, Hawaii, or outside the U.S.
Allowances that increase basic pay for accepting difficult assignments are taxable compensation.
Back Pay
Back pay awarded through settlement or judgment is taxable. This includes payments for lost wages, unpaid insurance premiums, and similar amounts. Employers report back pay on Form W‑2.
Bonuses and Awards
Bonuses and employer awards are taxable. If paid in property or services, include the fair market value in income.
Severance Pay
Severance pay is taxable, including:
- Payments for contract cancellation
- Accrued leave payouts
- Amounts withheld for outplacement services
If a taxpayer accepts reduced severance in exchange for services (e.g., résumé training), the full severance amount is taxable.
Sick Pay
Sick pay from an employer is taxable. Sick pay from a welfare fund, state disability fund, employer association, or employer‑paid insurance plan is also taxable.
If the employee paid the premiums for the accident or health policy, benefits are not taxable.
Disability Income
Disability payments from an employer‑paid plan are taxable. If both employer and employee contribute, only the portion attributable to employer payments is taxable.
Reimbursements for medical expenses incurred after the plan was established are not taxable. Reimbursements for expenses previously deducted may be taxable under the tax benefit rule.
Accident or Health Plans
The value of employer‑provided accident or health coverage is not taxable. Benefits received may be taxable depending on who paid the premiums.
Fringe Benefits
Fringe benefits are taxable unless specifically excluded or the employee pays fair market value. A covenant not to compete is treated as the performance of services.
Group‑Term Life Insurance
Employer‑provided group‑term life insurance up to $50,000 is not taxable. Coverage above $50,000 is taxable based on IRS cost tables. Employer‑paid premiums for whole life or permanent insurance are taxable.
Restricted Property
Property received for services is taxable when it substantially vests (no longer subject to forfeiture).
A taxpayer may elect under Section 83(b) to include the value in income in the year of transfer. Benefits of an 83(b) election:
- Locks in ordinary income at grant value
- Future appreciation may qualify for capital gain treatment
Restricted stock dividends are treated as compensation unless the stock has already been recognized as income.
Stock Options
Non‑statutory Stock Options (NSOs)
Taxable when:
- Exercised, or
- Sold/disposed
Income equals the difference between fair market value and exercise price.
Statutory Stock Options (ISOs)
No income at grant or exercise. Capital gain treatment applies if:
- Stock is held 1+ years after exercise, and
- 2+ years after grant
Otherwise, ordinary income applies.
Tip Income
All tips are taxable, including:
- Cash tips
- Charged tips paid by employer
- Tips from tip‑splitting or pooling
- Non‑cash tips (tickets, passes, items of value)
Employees must:
- Keep a daily tip record
- Report tips of $20+ per month to the employer by the 10th of the next month
- Report all tips on the tax return
Tips reported late are income in the month received. Tips under $20 per month do not need to be reported to the employer but must be reported on the tax return.
Social Security and Medicare Tax on Tips
- Use Form 4137 for unreported tips
- Non‑cash tips are not subject to FICA taxes
Penalty
A penalty under §6652(b) may apply for unreported tips—equal to 50% of unpaid FICA taxes—unless reasonable cause is shown.