What is Adjusted Gross Income (AGI)?
Adjusted Gross Income (AGI) is a number that the Internal Revenue Service uses to determine your income tax for the year. It is calculated by subtracting certain adjustments from gross income, such as business expenses, student loan interest payments, and other expenses.
After calculating the AGI, the next step is to subtract the deductions to determine the taxable income of taxpayers. In addition, the IRS also uses other income measures, such as the Modified AGI (MAGI) for certain retirement programs and accounts.
Key points to remember
- The Internal Revenue Service uses your Adjusted Gross Income (AGI) to determine the amount of income tax you owe for the year.
- The AGI is calculated by taking all of your income for the year (your gross income) and subtracting certain “income adjustments”.
- Your AGI may affect the amount of your tax deductions as well as your eligibility for certain types of pension contributions.
- The modified adjusted gross income is your AGI with some otherwise allowable deductions added. For many people, AGI and MAGI will be the same.
Understanding Adjusted Gross Income (AGI)
As prescribed in the United States tax code, adjusted gross income is a modification of gross income. Gross income is simply the sum of all the money you have earned in a year, which can include salaries, dividends, capital gains, interest income, royalties, income from rental, alimony and retirement distributions. AGI makes certain adjustments to your gross income to reach the figure on which your tax payable will be calculated.
Many US states also use the AGI of federal returns to calculate how much individuals owe in income taxes. States can further modify this number with deductions and credits specific to the state.
The items subtracted from your gross income to calculate your AGI are called income adjustments and you report them on Schedule 1 of your income tax return when you file your annual income tax return. Some of the more common adjustments are listed here, along with the separate tax forms some of them are calculated on:
- Support payments
- Penalties for early withdrawal on savings
- Educator’s expenses
- Employee Professional Expenses for Armed Forces Reservists, Qualified Performers, State or Local Officials Paid on Honorary Basis, and Employees with Disability-Related Work Expenses (Form 2106)
- Health Savings Account (HSA) Deductions (Form 8889)
- Moving expenses for members of the armed forces (Form 3903)
- SEP, SIMPLE and qualified plans for self-employed workers
- Self-employed workers’ health insurance deduction
- Self-employment tax (the deductible part)
- Deduction of interest on student loans
- Tuition and Fees (Form 8917)
Calculating your adjusted gross income (AGI)
If you use software to prepare your tax return, it will calculate your AGI after you enter your numbers. If you calculate it yourself, you will start by counting your reported income for the year. This can include labor income, as reported to the IRS by your employer on a W-2 form, as well as any income, such as dividends and miscellaneous income, reported on 1099 forms.
Then you add any taxable income from other sources, such as profits from the sale of a property, unemployment benefits, pensions, social security payments, or anything else that has not already been reported. to the IRS. Many of these income items are also listed in Schedule 1 of the IRS.
The next step is to subtract the applicable income adjustments listed above from your reported income. The resulting figure is your adjusted gross income.
To determine your taxable income, subtract either the standard deduction or the total of your itemized deductions from your AGI. In most cases, you can choose the one that gives you the most benefits. For example, the standard deduction for 2020 tax returns for married couples filing jointly is $ 24,800 ($ 25,100 for 2021), so couples whose itemized deductions exceed this amount would typically choose to itemize, while d others would just take the standard deduction.
The IRS provides a list of detailed deductions and the requirements for claiming them on its website.
Your AGI also affects your eligibility for many deductions and credits available on your tax return. In general, the lower your AGI, the more deductions and credits you can claim and the more you can reduce your tax bill.
An example of adjusted gross income (AGI) affecting deductions
Let’s say you had significant dental expenses during the year that were not reimbursed by insurance and you decided to itemize your deductions. You are allowed to deduct the portion of these expenses that exceeds 7.5% of your AGI.
This means that if you report $ 12,000 in unreimbursed dental expenses and have an AGI of $ 100,000, you can deduct the amount that exceeds $ 7,500, or $ 4,500. However, if your AGI is $ 50,000, the 7.5% reduction is only $ 3,750 and you would be entitled to a deduction of $ 8,250.
Adjusted gross income (AGI) vs modified adjusted gross income (MAGI)
In addition to the AGI, some tax calculations and government programs require the use of what is known as your Modified Adjusted Gross Income, or MAGI. This number starts with your adjusted gross income and then adds some items, such as any deductions you take for student loan interest or tuition and fees.
Your MAGI is used to determine how much, if any, you can contribute to a Roth IRA in any given year. It is also used to calculate your income if you purchase Marketplace health insurance under the Affordable Care Act (ACA).
Many people with relatively simple financial lives find that their AGI and MAGI are the same number, or very similar.
If you file your taxes electronically, the IRS form will ask for your AGI from the previous year as a way to verify your identity.
You report your AGI on line 8b of the IRS 1040 form that you use to report your income taxes for the year. Keep this number handy after completing your taxes, as you will need it again if you are submitting your taxes electronically next year. The IRS uses it as a way to verify your identity.
Also note that if your AGI is less than a certain amount ($ 72,000 in 2020), you can use the IRS Free File program to file your federal (and in some cases, state) taxes electronically at no cost.
What does adjusted gross income (AGI) mean for tax payments?
The AGI is essentially your income for the year after taking into account all applicable tax deductions. This is a large number that is used by the IRS to determine how much you owe in taxes. The AGI is calculated by taking your gross income for the year and subtracting any deductions you are entitled to. Therefore, your AGI will always be less than or equal to your gross income.
What are the common adjustments used to determine AGI?
There are a wide variety of adjustments that can be made when calculating the AGI, depending on the financial situation and life of the declarant. Additionally, since tax laws can be changed by lawmakers, the list of available adjustments may change over time. Some of the most common adjustments used when calculating the AGI include reductions for child support, interest payments on student loans, and tuition fees for qualifying institutions.
What is the difference between AGI and modified adjusted gross income (MAGI)?
AGI and MAGI are very similar, except that MAGI adds some deductions. For this reason, MAGI would always be greater than or equal to AGI. Common examples of deductions that are added back to calculate MAGI include income earned overseas, income earned on US savings bonds, and losses resulting from a publicly traded partnership.