What is adjusted gross income? Definition
Adjusted gross income, or AGI, is your total gross income (before taxes) minus certain tax deductions and other adjustments. Gross income includes such types of earnings as wages, dividends, alimony, government benefits, retirement distributions, capital gains and income from any other source. Adjusted gross income is calculated by subtracting such deductions and adjustments as alimony paid, retirement plan contributions, student loan interest and health insurance premiums.
How to find adjusted gross income on a tax return
Each person’s AGI is unique. The AGI on your Form 1040 income tax return, for example, can be found prominently on line 11.
How to calculate adjusted gross income
Simply add up your incomes to get your total gross income then subtract any adjustments and above-the-line tax deductions. The IRS provides detailed instructions on how to fill out your tax return (Schedule 1 for Form 1040) and any tax preparation service can walk you through this process.
Tax calculators are available online to help you determine your deductions with greater ease. There are also several above-the-line tax deductions to consider when calculating your AGI, which could help you maximize your return, or minimize the amount you owe.
Some tax deductions, however, have limits. Student loan interest, for example, is capped at $2,500 and educator expenses have a $250 limit.
How your adjusted gross income affects you
Your AGI is the basis for your taxes, not your gross income, because it represents your actual income. Your AGI also determines how you qualify for certain tax deductions and tax credits.
Some tax credits and deductions can benefit you more if your adjusted gross income is lower. If, for example, your out-of-pocket medical and dental bills exceed 7.5 percent of your AGI in a year, you can deduct the amount that exceeds 7.5 percent of your AGI. The lower your AGI and the higher your medical and dental expenses, the more you can deduct those expenses.
Your adjusted gross income is also used for your state tax return, which is why you need to complete your federal return first. Once you’ve filed your federal return and have your AGI , you can easily file your state tax returns.
Modified adjusted gross income
Modified adjusted gross income (MAGI) is essentially your AGI after factoring in certain tax deductions or penalties, or certain additions to income.
MAGI is used for different tax credits and deductions. The modified adjusted gross income can add a bit back into your income, such as foreign earned income, student loan interest, IRA deductions, and tax-exempt interest earned from tax-free bonds such as municipal bonds.
Calculating your MAGI will also depend on which tax credits and deductions you’re looking at, which is why you should do each deduction carefully. The IRS provides instructions on its website for calculating MAGI on specific forms such as Form 8960, which is used to calculate net investment income tax.
For retirees, MAGI is a big deal because it determines Medicare insurance premiums. Generally speaking, the higher your MAGI, the higher premium you will pay for Medicare. This is determined by looking back two tax years.