Not all the money you receive is taxable income, even though the IRS might like you to think it is.

Gain on the sale of your home
You're not taxed on gains up to $250,000 ($500,000 on a joint return) from the sale of your principal residence. You qualify for this exclusion if you owned and used the home for two out of five years before the date of the sale, regardless of your age.

Life insurance proceeds
The beneficiary receives the proceeds of life insurance policies free of tax. But the decedent's estate may be liable for estate tax on the proceeds.

Gifts and inheritances
You do not pay income tax on money or property you receive as a gift or inheritance. Any gift tax owed is the responsibility of the person who gave the gift. In the case of an inheritance, federal estate tax is paid by the decedent's estate, not by the beneficiaries.

If you inherit property that has increased in value, such as the family home, you receive it at its current estate value. This allows you to avoid tax on the gain. When you sell the property, you use its estate value, rather than the original purchase price, to calculate your taxable gain, another big benefit.

Borrowed money
You can borrow up to $50,000 from your company pension or 401(k) plan tax free, but you will be expected to repay it.
TRAP: If a debt you owe is cancelled, the amount of debt forgiven might become taxable income to you.

Grants for education
Scholarships and fellowship grants are tax free provided you are a degree candidate and the money is used strictly for tuition, fees, books, supplies and required equipment. (Grants for room and board are taxable.

Employee awards
Awards of tangible personal property (not cash) for length of service or safety achievements, up to $400 per employee or $1,600 if the employer has a qualified plan, are tax free. (Awards for suggestions to an employer are generally taxable)

Damages
Financial damages received in a lawsuit due to personal physical injury or sickness are tax free.

Rollovers
No tax is payable on a lump-sum payout from a company pension plan directly transferred into an IRA within 60 days.

Property settlements
Settlements between spouses in a divorce are not taxable to the recipient. However, the recipient takes over the tax cost (basis) in the property and will be taxed on any gain when the property is sold.

Child support and alimony
Child-support payments are tax free to the recipient. Alimony is generally taxable, but it can be tax free if the parties agree.

Municipal bond interest
Generally, the interest is exempt from federal income tax and sometimes from state and local tax as well.
EXCEPTION: Interest from certain "private activity" municipal bonds is subject to the AMT. Also, municipal bond interest is taken into account in figuring your income level to determine whether any of your Social Security benefits are taxable.

Return-of-capital dividends
Some companies pay dividends that are considered a return of your investment in the company. These are wholly or partially tax free. However, your tax cost in the stock has to be reduced by the amount of untaxed dividends.

Life insurance policy dividends
These are generally considered a partial return of the premiums you paid and are not taxable. You don't have to pay tax on these dividends until they exceed the accumulated premiums paid for the policy.

Annuity payments
The part of an annuity payment that represents the return of your investment in the annuity contract is not taxed. Pension and IRA distributions that represent any non-tax-deductible contributions are also not taxed.

Education savings bonds
Interest on U.S. Series EE and I savings bonds issued after December 31, 1989, is tax free to many tax payers if the bonds are later redeemed to pay for education expenses.
LIMITS: This exclusion is not available for taxpayers with income in excess of certain annually-determined amounts.

Also tax-free

• Workers compensation
• Social Security payments if your income is less than $32,000 if married filing jointly, or $25,000 if filing single
• Federal income-tax refunds (any interest the IRS pays on a late refund is taxable)
• State income-tax refunds, provided you did not itemize deductions on your federal tax return for the previous year
• Disability payments from accident or health insurance policies paid for by the taxpayer are generally not taxable. If your employer paid the premiums, they're usually taxable
• Foreign-earned income up to the maximum allowed for salary earned in another country if you were a resident of that country for the entire tax year. Some of your housing expenses are also excluded from U.S. tax. For 2005 through 2007, the maximum amount you can earn tax free each year in a foreign country is $80,000. TRAP: If you claim this tax exemption for all of your foreign-earned income, you can not contribute to an IRA for that year
• Certain fringe benefits from your employer are not considered taxable income. They include health and accident insurance, pensions plans, life insurance coverage up to $50,000, child- and dependent-care expenses, adoption assistance, supper money, employee discounts, and transit passes not exceeding $105 per month
• Reimbursed medical expenses not claimed as itemized deductions
• Reimbursed travel and entertainment expenses that you adequately account for to your employer
• Amounts received for insurance reimbursement up to the amount of your original cost of the property that was lost or damaged