Legal Definitions - Taxable income

Taxable income refers to the portion of an individual's or business's total earnings that is subject to taxation after certain permitted reductions, known as deductions, have been applied. It is the specific amount of money on which the government calculates how much income tax is owed. Essentially, you start with all the money earned (gross income) and subtract eligible expenses and allowances to arrive at this final figure.

• Example 1: An Employed Individual

  Sarah works as a software engineer and earns an annual salary of $100,000. During the year, she contributes $10,000 to her 401(k) retirement plan and pays $5,000 in health insurance premiums, both of which are pre-tax deductions allowed by law. To calculate her taxable income, her gross salary of $100,000 is reduced by these allowable deductions ($10,000 + $5,000 = $15,000). Therefore, her taxable income would be $85,000 ($100,000 - $15,000). The tax authorities will then calculate her income tax based on this $85,000 figure, not her full $100,000 salary.

• Example 2: A Small Business Owner

  Mark runs a small web design agency. In a given year, his agency generates $250,000 in revenue from client projects. However, he incurs various business expenses, including $30,000 for employee salaries, $15,000 for office rent, $5,000 for software subscriptions, and $2,000 for marketing. These expenses are all allowable deductions for his business. To determine his business's taxable income, Mark subtracts these total expenses ($30,000 + $15,000 + $5,000 + $2,000 = $52,000) from his total revenue of $250,000. His business's taxable income is therefore $198,000 ($250,000 - $52,000), which is the amount on which his business will pay corporate income tax.

• Example 3: A Freelance Consultant

  Maria is a freelance marketing consultant who earned $70,000 in fees from various clients over the year. As a self-employed individual, she has several business-related expenses. She spent $3,000 on professional development courses, $1,500 on home office utilities (a portion of her total utilities), $800 on new computer equipment, and $500 on professional liability insurance. These are all legitimate business deductions. To find her taxable income, Maria subtracts her total allowable expenses ($3,000 + $1,500 + $800 + $500 = $5,800) from her gross earnings of $70,000. Her taxable income is $64,200 ($70,000 - $5,800), and this is the amount she will report for income tax purposes.