When you are preparing your tax return, it is important to take a look at your adjusted gross income (AGI), noting that it is directly linked to the deductions and credits you’re eligible for. This, in turn, can result in the reduction of the amount of taxable income you finally report on the return. But what is adjusted gross income? Read on to know.
What is AGI?
Adjusted Gross Income is defined by the IRS (Internal Revenue Service) as gross income minus certain adjustments made to the total income.
It predominantly includes your business income, wages, dividends, capital gains and retirement distributions among other income. Certain adjustments made to the income (or simply the payments you’ve made during the year) include deductions like student loan interest, alimony payments, or contributions to a retirement or health savings account. Notably, the lower your AGI, the lower your taxes will be.
There are a number of tax software programs available online which can assist you in calculating any deductions and additions applicable to your AGI. You can also seek the help of a professional tax preparer to properly get your AGI calculated.
The IRS also employs other income metrics, such as modified AGI (MAGI), for specific programs and retirement accounts. MAGI can be defined as your AGI along with certain otherwise-allowable deductions that have been added back. For several people, AGI and MAGI may remain the same.
How does AGI impact your tax bill?
You use AGI to get yourself qualified for a number of tax benefits. For instance, the maximum charitable deduction you can avail in a given year is determined on the basis of a specific percentage of your AGI. Other benefits dependent on AGI include tuition tax credits, student loan interest deductions and adoption tax credits.
How to calculate Adjusted Gross Income?
One of the first steps in determining your taxable income for the financial year is to calculate your AGI. As you determine your AGI, you are able to ascertain your tax liability for the year. Here are the simple steps to calculate your AGI:
- Determine your total taxable income.
- Sum totals of taxable income from all your sources of earnings. Your income may come in the form of money, property, or services you receive throughout the year.
- Deduct allowable deductions and expenses from the total.
Income, wages, salaries, tips + other earnings = gross income – adjustments to income = AGI
Benefits of Adjusted Gross Income
AGI helps in determining eligibility for certain tax credits and assistance programs. For instance, the Free Application for Federal Student Aid (FAFSA) generally asks for AGI to establish your eligibility for education loans or grants. The AGI will also assist you in confirming how much some specific expenses you can subtract from your taxable income.
Even if you are not required to file a tax return, it is recommended that you still file it because it may help in increasing your eligibility for certain credits.