Earned income vs. unearned income at a glance
The table below shows some of the main differences between the two income types.
| Income type | Common examples | Payroll or self-employment taxes | Counts as earned income for the EITC? |
|---|---|---|---|
| Earned income | Wages, salaries, tips, commissions, and net self-employment earnings | Yes | Yes |
| Unearned income | Interest, dividends, capital gains, pensions, unemployment benefits, and Social Security benefits | Typically not | No |
Source: Internal Revenue Service
How earned income is taxed
Wages and tips are usually subject to federal income tax, Social Security tax, and Medicare tax. Employers typically withhold these taxes from an employee’s pay.
Self-employed workers pay income tax and self-employment tax – 15.3% of net business earnings – in addition to income tax. Self-employment tax helps fund Social Security and Medicare.
For example, if you receive $45,000 in wages and $1,000 in bank interest, the wages are earned income, and the interest is unearned income.
How unearned income is taxed
Unearned income may still be subject to federal income tax, even though it typically isn’t subject to payroll or self-employment taxes.
The tax treatment depends on the income type:
- Taxable interest and ordinary dividends are generally taxed at ordinary income rates.
- Qualified dividends and long-term capital gains may qualify for lower rates.
- Unemployment benefits are generally fully taxable. Pension and Social Security income, by contrast, may be fully or partially taxable depending on factors like prior contributions and total provisional income.
Note: High-income taxpayers may also owe the 3.8% Net Investment Income Tax (NIIT). It may apply when modified adjusted gross income exceeds $200,000 for single or head of household filers, $250,000 for married couples filing jointly, or $125,000 for those married filing separately.
Why the difference matters for tax credits
You must have earned income to qualify for the EITC. Unearned income doesn’t count toward the requirement, and too much investment income can make you ineligible — for the 2025 tax year, investment income over $11,950 disqualifies you from the EITC regardless of how much you earned ($12,200 for 2026).
The Additional Child Tax Credit (ACTC) also requires a minimum earned income. These rules make it important to separate income from work from income received through investments or other sources.
