Total, adjust, modify, repeat.
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If youâve ever stared at a Form 1040 and wondered why the Internal Revenue Service (IRS) uses so many different terms to describe âincome,â youâre not alone. Even seasoned filersâand sometimes financial prosâget tripped up by the labels.
The IRS uses three distinct, but seemingly interchangeable, terms to describe income: total income, adjusted gross income (AGI), and taxable income. And as if that werenât enough, a fourthâmodified adjusted gross income (MAGI)âis used for some calculations. Understanding what each one means will give you a clearer picture of your tax bracket, your eligibility for deductions and credits, and other factors that shape your final tax bill.
Key Points
- Adjusted gross income (AGI) starts with your total income and subtracts certain IRS-approved adjustments.
- Taxable income is your AGI minus the standard deduction or itemized deductions, and then minus the qualified business income deduction (QBID).
- Modified adjusted gross income (MAGI) adds specific items back to your AGI; the formula changes depending on what tax rule or benefit youâre calculating.
Total income on Form 1040
To calculate your total income, youâll need to add together the following items.
W-2 income and related items: If you are an employee of a company, your wages will be reported to you on Form W-2. Other types of wages also need to be included in your income:
- Wages you received as a household employee, such as a maid or nanny, that were not on a W-2.
- Tip income that is taxable and not included in your W-2. (Under the OBBBA, starting in 2025, some workers may get a separate deduction for certain tips, but those tips are still reported as income.)
- Unusual items such as Medicaid waiver payments, taxable dependent care benefits, employer-provided adoption benefits, or income that your employer considered payments to an independent contractor that you believe to be employee wages.
- Other earned income such as scholarships, strike benefits, or certain disability pensions.
In addition to W-2 income and related items, youâll need to include:
- Interest that you earned on investments such as a savings account or CD, reported to you as taxable on Form 1099-INT.
- Dividends that you received on stocks that you own, reported to you as ordinary dividends on Form 1099-DIV.
- IRA distributions that you received from a traditional IRA, including required minimum distributions (RMDs), reported to you as taxable on Form 1099-R.
- Pensions and annuity payments, including distributions from 401(k), 403(b), and governmental 457(b) plans, reported to you as taxable on Form 1099-R.
- Social Security benefits that are taxable. You will receive a Form SSA-1099 showing all Social Security benefits paid to you, and you will need to complete a worksheet to find out how much of those payments are taxable.
- Capital gain or loss from the sale of a capital asset such as a stock or bond. You will need to use Schedule D or the Capital Gain Tax Worksheet to figure out your taxable amounts.
- Additional income from any other source is reported on Schedule 1 and added to your total income. Additional income includes dozens of items such as alimony (if your divorce agreement was before 1/1/2019), taxable refunds, business income, rental income, farm income, unemployment compensation, jury duty pay, prizes, stock options, scholarships, and so on.
Total income="Income" from the sources listed above
Examples of nontaxable income
Certain money you receive is not taxable and does not have to be reported on Form 1040: child support, alimony received if your divorce agreement was after 12/31/2018, life insurance proceeds from someoneâs death, gifts (unless they are from foreign individuals, estates, or companies), or payments used to pay your mortgage under the Homeowner Assistance Fund.
Adjusted gross income (AGI)
For many people, adjusted gross income (AGI) is the same as total income. In certain cases, your income may be reduced to calculate AGI. Schedule 1 lists these adjustments:
- Qualified Kâ12 educator expenses such as classroom materials or professional development courses.
- Contributions to a health savings account (HSA).
- The deductible portion of self-employment tax if you own your own business.
- Alimony paid (if your divorce agreement was before 1/1/2018).
- Contributions to a traditional IRA as calculated by a worksheet.
- Student loan interest paid, if you qualify.
- Other unusual amounts, such as business expenses for government officials and performers; moving expenses for armed forces members; self-employed SEP/SIMPLE/health insurance/MSA contributions; and penalties paid on early withdrawals from a retirement savings plan.
- Other adjustments that are even more unusual, including reforestation expenses and attorney fees involving certain discrimination cases. Read the instructions to Form 1040 if you have unusual adjustments to income.
AGI="Total" income â adjustments on Schedule 1
What is AGI used for?
If you itemize, deductions for medical expenses, charitable contributions, and casualty losses are limited based on your AGI. When calculating phaseouts of certain tax credits (such as the saverâs credit, the child and dependent care credit, and earned income tax credit), AGI is used. When you complete your Form W-4 for your employer, you might be asked for your AGI in order to estimate the taxes to be withheld. Your previous yearâs AGI is used to verify your identity when you file next yearâs taxes electronically. And if the IRS offers you an installment plan to pay your taxes, it might use your AGI.
There are only two deductions from your AGI to get to your taxable income: your choice of the standard deduction or itemized deductions, and the qualified business income deduction (QBID). Your taxable income is used to calculate the tax that you owe.
- Your choice of deductions: Either take the standard deduction for your filing status, or fill out Schedule A to itemize your deductions. Since the Tax Cuts and Jobs Act (TCJA) of 2017, when the standard deduction was greatly expanded, fewer than 5% of households itemize.
- Qualified business income deduction (QBID): Individual taxpayers who are self-employed, have qualified real estate investment trust (REIT) dividends, or receive qualified publicly traded partnership (PTP) income may get a deduction worth up to 20% of their qualified business income. Use Form 8995 or 8995-A to see if you qualify.
Taxable income="AGI" â QBID â larger of standard deduction or itemized deductions
Modified adjusted gross income (MAGI)
Modified adjusted gross income (MAGI) is calculated by adding specific amounts back to your AGI. The things you add back vary based on the credit, deduction, or tax rule youâre calculating. Here are some of the top rules and deductions that require modifications to AGI.
Child tax credit, lifetime learning credit, American opportunity tax credit, student loan interest deduction, adoption expenses: MAGI="AGI" + foreign earned income + foreign housing deduction + American Samoa/Puerto Rico income that was excluded.
Coverdell education savings account (ESA): MAGI="AGI" + student loan interest deduction + employer-provided adoption benefits + foreign earned income + foreign housing deduction + American Samoa/Puerto Rico income that was excluded.
Premium tax credit (for a health insurance plan purchased through a marketplace): MAGI="AGI" + foreign earned income + tax-exempt interest + nontaxable Social Security benefits.
Traditional IRA contributions: MAGI="AGI" + IRA deduction + student loan interest deduction + excludable savings bond interest + employer-provided adoption benefits + foreign earned income + foreign housing deduction. (Note that if you are receiving Social Security benefits, your IRA-related MAGI calculation will be different.)
Roth IRA contributions: MAGI="AGI" + IRA deduction + student loan interest deduction + excludable savings bond interest + employer-provided adoption benefits + foreign earned income + foreign housing deduction â income from converting a traditional IRA to a Roth IRA â rollovers from a qualified retirement plan to a Roth.
Net investment income tax: MAGI="AGI" + foreign earned income + deductions resulting from having foreign earned income + any amount reported to you on Schedule K-1 from an estate or trust ± controlled foreign corporation or qualified electing fund ± interest in a domestic partnership or S corp that holds one of these.
Itâs easy to assume that your total income tells you everything you need to know about your taxes, but it doesnât. To understand your eligibility for deductions, credits, and other tax benefits, you need to look at the adjusted versionsâAGI and one or more modified AGIs (MAGIs), which are used for major rules like IRA contributions and education credits.
When it comes to your tax bracket and the amount you ultimately owe, taxable income is the number that counts. Knowing how each income type works gives you a clearer, more accurate picture of your overall tax situation.
This article was most recently revised and updated by Nancy AshburnThis article was most recently revised and updated by The Editors of Encyclopaedia Britannica
