Filing your tax return is a repetitive practice you have to undergo every year. The sooner you understand and learn the ins & outs of filing your tax return in the United States, the better for you.
And when it comes to filing your tax return, Form W-2 and your taxable income are the first things you have to have with you.
You cannot just post any random number when filing your tax return. You must calculate the total taxable income in several steps by deducting allowances from your gross income.
Gross income, adjusted gross income, net taxable income, etc., are the calculations you have to make to calculate the total tax liability.
If we talk about the IRS, adjusted gross income is the primary income that the tax department considers for calculating the tax liability of the tax filers.
We have curated an ultimate guide to help tax filers calculate their adjusted gross income from Form W-2. We will also discuss how to calculate your AGI without Form W-2 and other forms of the IRS which can be used for AGI calculations.
So let’s get into it.
- Adjusted gross income is calculated by making adjustments and subtracting deductions from the gross income.
- You can find adjusted gross income from the Form W-2, including salary, wage, commission, tips, bonuses, etc.
- For self-employed people or businessmen, the adjusted gross income can be computed from Form 1099s.
- The modified adjusted gross income is used for the computation of tax liability, and the adjusted gross income is used to calculate tax credits and deductions.
What Is Adjusted Gross Income?
Adjusted gross income of an individual or couple is the term used for tax purposes, and it is calculated by deducting certain allowances and deductions.
You might have heard a lot about above-the-line and below-the-line deductions when doing tax calculations.
So, adjusted gross income is the line meant in the phrases. Deductions you subtract from the gross income are called above-the-line deductions, and you will reach your AGI.
IRS has also defined AGI as follows:
“Adjusted Gross Income (AGI) is defined as gross income minus adjustments to income. Gross income includes your wages, dividends, capital gains, business income, retirement distributions, and other income. Adjustments to income include such items as Educator expenses, Student loan interest, Alimony payments, or contributions to a retirement account. Your AGI will never be more than your Gross Total Income on your return and, in some cases, may be lower.”
Importance Of Adjusted Gross Income For Tax Purposes
Adjusted gross income is of major importance when it comes to calculating the total taxable income. Here are a few points that make AGI important calculations for your tax filing:
- It is necessary to find AGI accurately as your AGI is also used to verify your identity.
- Your adjusted gross income is also used to make deductions and claim tax credits from the IRS
- The accuracy of the adjusted gross income also impacts your tax refund and tax liability.
- Your AGI can also impact the limits on your deductions depending on your filing status.
How To Calculate Your AGI From Form W-2
Now, we should talk about the calculation of the adjusted gross income for tax purposes. Form W-2 is usually the most popular document when you are filing your tax return as a full-time or part-time employee.
Therefore, we will also use W-2 as a reference for the calculation of your adjusted gross income.
The adjusted gross income of any individual can be calculated in three steps:
- Collect Your Income Statements
- Calculate The Deductions
- Subtract Deductions & Expenses From Income
How To Find Adjusted Gross Income From Form W-2?
Here is a detailed overview of finding your adjusted gross income using Form W-2 as the information reference:
Collect Your Income Statement
So, you have to calculate your taxable income from Form W-2 as the first step to compute your adjusted gross income for tax purposes.
The income calculated in the first step includes your wages & salary from the employer, any earnings from self-employment, any broker & barter exchange transactions, or real estate transactions.
Salary and wages are reported in Form W-2. Since we are discussing calculating your income from Form W-2, we will consider the items of W-2 that are considered income.
So, you will consider the following items as your total income for AGI purposes:
- Salary and wages
You will also add other sources of income which we will discuss in the later part of the article.
The second step is calculating the deductions on your total income. You will consider the following deductions to be subtracted from your gross income:
- 401(k) contributions
- Charitable donations
- Alimony payments
- The interest amount on student loans
- Specific job-related expenses
- Medical bill payments
- Educator expenses
- Contributions to health saving accounts
- Moving expenses
- Retirement contributions
All you have to do is find the deductions which you have made and sum them up in the second step of calculating your AGI from Form W-2.
Subtract Deductions And Expenses
The last step is calculating the adjusted gross income by subtracting the deductions & expenses from the income computed in the first step.
One computation, and you will reach your AGI. However, one thing must be considered the method we have discussed will only work if you have only employment income and there is no side hustle.
How To Determine Adjusted Gross Income Without Form W-2?
Most people have multiple income sources, and employment is just one of them. Therefore, it is also important to discuss how to compute your adjusted gross income without form W-2.
For self-employed people running businesses or earning money through investments, here is the step-by-step guide to compute the adjusted gross income for tax purposes:
Calculation Of Total Income
You will find the income from your Form W-2 in case of employment, Form 1099 in case of self-employment, Form 1099-B for broker & barter exchange transactions, Form 1099-S for real estate business, and Form 1099-INT for interest income.
For dividend income, you will have to consider Form 1099-DIV.
Besides the figures mentioned in the Forms mentioned above, you will also add the following sources of income:
- Business income
- Union strike benefits
- Lottery, prize, gambling, and contest winnings,
- Award winnings
- Long-term disability benefits
- Taxable refunds, credits, or offsets
- Capital gains
- Rental real estate income
- Royalties, partnerships, trusts, license payments, etc
- Unemployment benefits
- Spousal support
Any child support benefits, life insurance proceeds, workers’ compensation benefits, disability payments, foster care payments, canceled debts, scholarships or fellowship grants, capital gains on the sale of the primary home, and gifts or inherited assets are not considered for the computation of taxable income.
Calculation Of Deductions
The second step is the computation of deductions from the total income you have calculated. Besides the deductions made from income of Form W-2, the following deductions will have to be considered:
- Deduction for self-employment tax
- Classroom expenses for teachers and educators
- Self-employment health insurance deductions
- Qualified performing artists and other professions
Subtract Deductions From Total Income
Finally, the last step is subtracting all the computed deductions from the individual’s total income. Once you complete this step, you will reach the AGI that can be used for below-the-line deductions to compute the total taxable income.
Gross Income Vs. Adjusted Gross Income
Gross income is the income before the adjustments are made above the line. It includes wages, salaries, dividends, business income, real estate profits, capital gains, dividends, etc.
On the other hand, adjusted gross income is calculated by subtracting deductions and making certain adjustments to the gross income.
Modified Adjusted Gross Income Vs. Adjusted Gross Income
Let’s talk about the difference between adjusted gross income and modified adjusted gross income. The first one is used to compute income tax liability and tax credits according to the tax filer’s eligibility.
However, the modified adjusted gross income is the amount that has to be used for tax filing purposes. The MAGI is calculated by adding untaxed foreign income, non-taxable Social Security Benefits, tax-exempt interest, etc., to the adjusted gross income.
In some cases, there might be a little difference between the AGI and MAGI.
We have discussed everything you need to know about the computation of the adjusted gross income from W-2 as well as from other Forms that self-employed and business individuals have to file. We hope you will be able to file your tax return as an employed person.
Besides, the difference between AGI and MAGI will help you to know if the tax professional working with you is using the right amount for tax filing.
You can also file your tax return on your own with a free eFile of IRS if your income is below $63,000 per annum.