When filing taxes your Adjusted Gross Income plays the majority of the role. We all pay taxes but not on our net income though. Your adjusted gross income, to put it simply is the income that the Internal Revenue Service can tax.
You can determine your adjusted gross income (AGI) by subtracting the tax adjustments that are available to you. These can be contributions to your traditional Individual Retirement Account (IRA), alimony payments, etc.
The easiest way to get to your AGI is by calculating all the adjustments and deductions that you can add on your tax return and subtracting it from your net income. Other than these there are tax credits but instead of lowering your taxable income (AGI), it lowers the total amount you owe to the IRS.
What does Adjusted Gross Income do?
First things first, adjusted gross income determines the tax rate you’re going to pay. You can see what portion of your income is going towards taxes from our tax brackets article.
You can lower your adjusted gross income as much as you can by claiming the standard deduction or itemizing. If you can’t decide which one to pick, you always must claim the standard deduction if your itemized deductions do not exceed the standard deduction amount for that year.
The standard deduction amount for 2019 taxes due in April 2020 is $12,400 for single filers, $24,800 for joint filers and $18,650 for the head of household. Making the right choice will lower your adjusted gross income for the better so you can pay less tax in the end.
Your AGI will not only determine your tax rate but eligibility to claim certain deductions and credits. For example, if you’re a single filer with an adjusted gross income of over $200,000, you cannot claim the Child Tax Credit which has a $2,000 value going towards your tax bill. Another use of your adjusted gross income may come in when you pay your state taxes as some states use it to calculate state taxable income.
Overall, your adjusted gross income is very important and should therefore be taken seriously. Make all the adjustments that you can and lower your overall tax bill. Even reducing your AGI by $100 can save you $10 to $40.