What Is Adjusted Gross Income (AGI) and How to Calculate AGI?

What Is Adjusted Gross Income (AGI) and How to Calculate AGI?

In the United States, you need to understand better the term adjusted gross income for filing your tax returns. Adjusted gross income is the total gross income minus certain deductions from a rental or business activity and various other items.

Being a crucial component of the income tax system, this amount determines how much taxable income you owe after making certain deductions. In other words, the adjusted gross income is used by the IRS to figure out your annual income tax liability. AGI is more relevant for calculating an individual’s taxable income than simply using the total gross income.

To make the process easier, we will discuss what is AGI and show you how to calculate adjusted gross income.

What is Gross Income? Gross Income Meaning

Gross income refers to your total income from all resources. This figure is not limited to the cash received but involves the sales price of your property or goods, minus the cost of the property or goods sold, along with various other income. This is why gross income is considered a starting point for filing taxable returns.

So how to calculate gross income? It is the sum total of all the income you earn in a year which basically includes interest, bonuses, rental income, dividends, wages, alimony, salary, investment gains, annuities, pensions, business income, retirement distributions, income from partnerships, royalties, income tax refunds, and other income sources having tax exemptions.

What is gross income in financial terms? It indicates the net gains while disposing assets, including capital losses and gains. Losses incurred on personal assets are not deducted while calculating gross income or AGI. You will notice inheritances and gifts are also excluded from the AGI calculations. While filing the annual income tax, you will notice the gross income appears on line 9 of the IRS Form 1040.

What Is Adjusted Gross Income (AGI)? Adjusted Gross Income Definition

Now that we understand gross income meaning let’s figure out what is adjusted gross income?

Adjusted gross income (AGI) is your total income minus whatever taxable adjustments and deductions you qualify for while filing tax returns with the IRS. In simple terms, adjusted gross income is all the money you have earned during the year minus certain adjustments that the IRS permits taxpayers to reduce their taxable income.

How is adjusted gross income calculated by deducting certain tax adjustments from your total gross income. If your adjusted gross income is low, there’s a greater chance for you to enjoy some tax breaks. This is why AGI is considered a base for determining how much tax you owe each year.

While preparing taxable returns, most individuals give more attention to their taxable income than the adjusted gross income. Keep in mind your AGI figure is important as well. Here’s why? The adjusted gross income directly impacts the credits and deductions that an individual is eligible for. The benefit is that it will help reduce the amount of taxable income you must report on your taxable returns.

Certain deductions like medical expenses and itemized deductions are limited when calculating AGI based on a percentage of adjusted gross income. Many states include state income tax on AGI along with several deductions.

How To Calculate Adjusted Gross Income?

How To Calculate Adjusted Gross Income?

The concept of income appears quite simple, as it includes all the money you’ve earned from whatever sources throughout the year. But most individuals find themselves scratching their heads while calculating tax returns. It keeps them wondering how adjusted gross income is calculated and its relation to taxable income and gross income.

Prior to figuring out how to calculate AGI, it is essential to verify whether you are required to file a tax return. Even if it’s not required, the IRS advises individuals to do so if they are eligible to file. To calculate AGI, follow the below step-by-step process.

Step 1: Gather All Your Income Statements

To calculate adjusted gross income, start by gathering all your income statements pertaining to the current year. This includes your self-employment income, wages, salaries, or any income reported on various forms.

In addition to that, make sure to include all types of taxable income such as social security benefits, alimony, rental income, interests, bonuses, income generated from operating a business, and much more. Finding all these details will help you figure out your total income earned for the year.

Step 2: Calculate Total Gross Income

Once you have all your income statements in place, you can calculate the total income you have accumulated for the year. If you expect to receive or earn any amount as bonuses, make sure to include that amount in the total income calculation. If you are someone who earns an annual salary, most of the calculations have been done for you by your company‘s payroll.

If you’re married and planning to file joint taxable returns with your spouse, you will have to include the annual income, bonuses, and other earnings of your partner, as tax returns are filed for the entire household.

Keep in mind your adjusted gross income will never exceed the total annual income you report in the initial lines while filing tax returns. It will be much lower than the total income earned in most cases. The total income includes rental income, salary, royalties, commission, unemployment compensation, taxable alimony payments from your former spouse, taxable interest, capital gains, and other types of income that are not exempt from paying income tax.

Step 3: Calculate the Total Deductions 

After you have calculated the total gross income, you will have to look out for specific deductions and expenses that are exempt from taxable returns by the IRS. This might get you wondering, why not use the same deductions and expenses from the previous years.

However, the deductions you make on your total income keeps changing from year to year, and only a few remain the same.

Some of the specified deductions made on the total income to arrive at the adjusted gross income figure are:

  • Healthcare savings account deductions.
  • School tuition fees and student loan interests.
  • Penalties are imposed due to financial institutions’ early withdrawal from savings accounts.
  • Self-employed health insurance premiums and taxes.
  • Expenses of carrying out a business which includes rental activities

Step 4: Minus The Deductions from Total Income

With the total annual income and total deduction sorted out, you can subtract the deductions from the total annual income to get the adjusted gross income. If you wish to find the monthly AGI, you can divide the total amount by 12.

To make things easier while calculating your AGI, it will be helpful to go through some adjusted gross income example situations online to arrive at your own AGI tax calculations. Once you have figured out how to find AGI, you will be able to file your tax returns for the year easily.

Reporting Adjusted Gross Income On 1040

When it comes to the United States federal individual income tax returns, the total gross income is reported using the form 1040 series. In some cases, you will also need supporting forms for reporting dividends and interest.

It is reported on line 11 of the IRS Form 1040 of your federal tax return for adjusted gross income. Form 1040 is used to file your annual income tax returns. After you have filed your taxable returns, make sure to keep the number safe, as you will need it again if you’re planning to e-file your taxes in the following years. Besides, the IRS uses it to verify the identity of the individuals.

AGI Implications

The adjusted gross income is the total annual income after making certain adjustments. The IRS uses the AGI to figure out the tax liability of individuals for the year. At times, AGI and net income are used interchangeably for general terms. However, net income is mainly used for referring to business income. Understanding your gross income before or after taxes will help you figure out the taxable income you owe each year.

If you reside in a state where it is a must to file annual income tax returns, your adjusted gross income will impact the state taxable income. The reason being, that most states use the federal adjusted gross income as their starting point for calculating state taxable income.

Also, to manage your school expenses, if you’re planning to claim tax credits like lifetime learning credit, you need to make sure your modified AGI is below the specified threshold required by the IRS regulations.

If you plan to go online to file your annual income taxes, the online adjusted gross income calculator will calculate your AGI taxable income using the adjusted gross income formula.

Final Thoughts: How To Find Adjusted Gross Income?

With the income tax laws undergoing changes recently, the rules for calculating and claiming deductions have been rewritten. This gets one thinking, how do I calculate adjusted gross income? Though the basic procedures remain the same, you must calculate your total gross income and make some deductions to get the adjusted gross income. After a few more deductions, you will obtain your AGI taxable income figure.

In most cases, you can calculate the taxable figure on your own. If you’re still unsure how to determine adjusted gross income, you can hunt online for an AGI calculator to get the calculations done.

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