What is adjusted gross income (AGI)?
Your gross income is the total amount of money you make before taxes and other deductions are subtracted.
It includes your salary or wages and everything else you earn: dividends, capital gains, business income, retirement distributions and other sources of income.
To determine your adjusted gross income, you take your total gross income and subtract certain payments you made throughout the tax year. Those can include:
- Losses from a property sale.
- Contributions to retirement plans, including IRAs.
- Up to 50% of self-employment tax.
- Health care savings account contributions.
- Moving expenses for active-duty military personnel.
- School tuition and fees.
Your AGI will never be greater than your gross income. The adjusted figure gives a more accurate representation of what you earned during the year, and provides an amount which the government can fairly tax.
Why is AGI important?
When you fill out your tax return, using tax software or the old-fashioned pen-on-paper method, your AGI is the income total that your tax bill will be based upon.
It's not just your federal taxes that rely on AGI. Many states also use adjusted gross income to calculate how much you owe in state income taxes.
AGI appears near the bottom on the front side of your IRS Form 1040. Once it's time to start gathering your tax documents for 2021, you can refer back to line 11 on your 2020 return to get a very rough idea of what your new AGI might be.
How to calculate adjusted gross income
To calculate your AGI, consider all of your reported income from the year you’re filing for. This includes what you earned from work, profits from the sale of property, pension checks, unemployment benefits and any other money that came in.
Did you win a pile of cash in the lottery? That counts. So does anything you made from a side gig, like if you did some tutoring.
One windfall that will be excluded from your 2021 gross income is any stimulus check you may have received from the COVID-19 rescue bill President Joe Biden signed in March.
Your gross income is tallied up as you fill in your earnings details for your tax return. Then, it's time to start providing the information on what are called your above-the-line deductions and payments, which are subtracted from gross income. The number you end up with is your AGI.
Remember, it will never exceed your total gross income. If it does, it’s time to run the numbers again. You may want to loop in a tax expert if you're struggling.
With your AGI, you can either take the standard federal tax deduction or opt to itemize deductions, if you're eligible to do that.
The 2017 tax overhaul signed by President Donald Trump beefed up the standard deduction and made it unnecessary for many taxpayers to go to the trouble of itemizing. The standard deduction for the 2021 tax year will be $12,550 for single taxpayers and $25,100 for married couples filing jointly.
AGI calculation example
The AGI math isn't as difficult as it might seem. Let’s say you’re a single person who earned $80,000 in total income and had these qualifying expenses, or above-the-line deductions:
- $4,500 in health care savings account contributions.
- $500 in student loan interest.
- $5,000 deposited into an IRA.
Those adjustments to income total $10,000. When you subtract that amount from your gross income of $80,000, you get an AGI of $70,000.
Your $10,000 in expenses won’t be included in the income the federal government will tax for that year.
What about modified AGI (MAGI)?
There are some tax calculations or government programs that will require your modified adjusted gross income, or MAGI.
You can find this number by taking your AGI and adding back certain figures, like how much you paid in student loan interest, or college tuition and fees.
Your MAGI is used to calculate how much you can contribute to a Roth IRA, or whether you qualify for certain tax credits, income-based Medicaid health coverage, or a subsidized health insurance plan on the Affordable Care Act (Obamacare) exchange.
If you have a fairly uncomplicated financial situation, your AGI and MAGI will be either fairly close or even the same number.
IRS Free File
Your AGI can help you see whether you qualify for certain perks, like the IRS Free File.
Free File is available to households with an AGI of $72,000 or less. For couples filing jointly, the limitation counts for both spouses combined.
With Free File, you’ll be able to file your taxes for free via an IRS partner site. You’ll have to understand how to file your taxes, but there is guided preparation and an online service that does all the math for you.
How to proceed
Your AGI will likely fluctuate from year to year. So while it’s helpful to use the number provided on your previous year’s tax return, you’ll want to recalculate every time you file, because your income and deductions are likely to change.
But the previous AGI in your tax records serves an important purpose. The IRS sometimes uses it to verify your identity.
So even if your income or deductions have gone up or down over the course of the year, you may still need to have your previous AGI handy when filing your taxes.
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