Adjusted Gross Income (AGI) can directly affect the deductions and credits for which you are eligible, which can end up reducing the amount of taxable income that you report on your tax return.
A brief description of the AGI
When preparing your tax return, you probably pay more attention to your taxable income than to your Adjusted Gross Income (AGI). However, your Adjusted Gross Income is also worthy of attention, since it can directly affect the deductions and credits for which you are eligible and that can end up reducing the amount of taxable income that you report on your return.
Calculating adjusted gross income is relatively straightforward.
- It is equal to the total income you report that is subject to income tax, such as income from your job, self-employment income, and interest from a bank account, minus the specific deductions, or “adjustments” that you are eligible for. to drink.
- Your Adjusted Gross Income is calculated before taking the itemized or standard deduction , which you report in the later sections of the return.
Adjustments to income
Income adjustments are specific deductions that directly reduce your total income to arrive at your Adjusted Gross Income. The types of adjustments that can be deducted are subject to change each year, but some of them consistently show up on tax returns year after year. Some of these settings include:
- half of the taxes you pay for self-employment
- the payment of alimony made to a former spouse (for agreements prior to 2019)
- contributions to certain retirement accounts (for example, a traditional IRA )
Impact of deductions
Many of the deductions that taxpayers commonly take advantage of each year are subject to AGI limitations. If you itemize deductions , for example, you must reduce your medical and dental expenses by 7.5% of your Adjusted Gross Income for 2020 which means that you can only deduct the amount that exceeds 7.5% of your Adjusted Gross Income. Therefore, the lower your Adjusted Gross Income, the more medical and dental expenses you can deduct.
Even some of your adjustments to income are subject to AGI limitations even though those deductions are necessary to calculate your own Adjusted Gross Income. If you are eligible to deduct some of your tuition payments, your Modified Adjusted Gross Income (MAGI) determines if you qualify.
Other implications of the AGI
If you live in a state that requires you to file annual income tax returns, Adjusted Gross Income can also affect your state’s taxable income. This is because many states use your federal AGI as the starting point for calculating state taxable income. And if you claim a tax credit, such as the Lifetime Learning Credit , for your school expenses, the IRS (Internal Revenue Service) requires that your MAGI be below a certain amount in order to claim the credit.