Adjusted gross income (AGI) is the total amount of a person’s or household’s income before applicable deductions and taxes are taken out. It is an important figure to know when it comes to calculating a person’s or household’s taxes and filing their annual tax return. AGI is the starting point when it comes to the Internal Revenue Service (IRS) and other tax authorities, being used not just to calculate taxes but for purposes of evaluating whether a taxpayer qualifies for certain credits, deductions and exemptions that can potentially reduce their tax burden. Here’s everything you need to know about AGI and what it means for your taxes.
Understanding Adjusted Gross Income
Adjusted Gross Income (AGI) is your gross taxable income minus any allowed adjustments and deductions. Examples of allowed adjustments and deductions, which are recognized by the IRS, include moving or job search expenses, Unreimbursed Employee Business Expenses, Alimony, Education Expenses, Early Withdrawal Penalties on Savings Accounts, Health Care Expenses that exceed a certain percentage of your income, Self-Employed Health Insurance, Student Loan Interest and Retirement Contributions such as Traditional IRAs and 401(k)s.
The AGI you arrive at represents your taxable income and is used as the basis for calculating income taxes due on your return. Every dollar you reduce your taxable income essentially reduces the taxes you will owe. It’s important to note that various tax deductions only become available after you reach a specific AGI or have enough deductions to reduce your taxable income to a specific level.
How to Determine Your Adjusted Gross Income
To calculate your AGI, follow these simple steps:
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Determine your gross income. Gross income is the combined total of all income earned from wages and salaries, self-employment income, gains from the sale of property, investments, dividends, and any other sources of income.
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Subtract all deductions. Subtract allowed adjustments, deductions and tax credits, such as student loan interest, retirement contributions, moving expenses, health insurance premiums and any other income adjustments.
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Calculate your AGI. The number you arrive at when you’ve subtracted all deductions from your total income is your adjusted gross income.
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Use your AGI for tax filing. Once you have your AGI, you can use it to complete your tax return and calculate any taxes owed, and the amount to be refunded if any.
How AGI Impacts Your Tax Return
When you are completing your taxes, your AGI will determine what deductions and credits you are likely qualify for. For example, the standard deduction, which is a fixed amount that reduces your taxable income, is available by subtracting a set amount from your AGI. Additional deductions and credits are based on the percentage of your AGI.
Taxpayers earning higher incomes may not qualify for certain deductions and credits which reduce their taxable income. For example, the Earned Income Credit (EIC) is not available to taxpayers with an AGI that exceeds certain thresholds. AGI also affects the amount of tax you will owe. In general, the higher your AGI, the higher your tax rate as income tax is based on marginal tax brackets. As such, it is important to pay attention to your AGI when considering tax deductions and credits so that you don’t exceed the thresholds and be penalized by the IRS.
Qualifying for the Federal Premium Tax Credit
The Affordable Care Act (ACA) imposes a penalty on individuals who fail to obtain health insurance coverage in form of an individual mandate. Individuals are required to have health insurance or have an exemption certificate. Those who are exempt from the individual mandate fee include individuals with an AGI or Modified Adjusted Gross Income (MAGI) that is below certain levels such as individuals with an AGI for less than 138% of the Federal Poverty Level (FPL) for the same household size.
For those who need to buy healthcare coverage from the Marketplace, your AGI is used to figure out if you’re eligible to purchase a plan with the help of the federal premium tax credit. A household’s AGI must be between 100% and 400% of the FPL to qualify for a premium tax credit.
Adjusted Gross Income (AGI) is an important figure to know when it comes to calculating taxes and filing annual tax returns. It is used as a starting point when it comes to the Internal Revenue Service (IRS) and other tax authorities, not just to calculate taxes but to evaluate if a taxpayer qualifies for certain credits, deductions and exemptions that can potentially reduce their tax burden. Knowing your AGI can help you to take full advantage of all eligible tax deductions and credits and save you money when filing your taxes.
