Adjusted Gross Income
Determining an individual's adjusted gross income is an integral step in calculating taxable income. AGI/Adjusted Gross Income is essentially all of an individual's taxable net income from all sources less certain "front page deductions".
The calculation of taxpayer's gross income is essentially a total of all of the taxable income received during the tax year--typically the twelve months ending December 31st. For many taxpayers gross income is calculated by adding together the total of:
- W-2's
Care should be taken to ensure that this amount is obtained from Box 1 of employees W-2. This amount is frequently different from an employees gross salary/compensation as a result of taxable fringe benefits, the deductibility of 401K amounts or Section 125/Cafeteria plans an employee pays, moving expenses, etc. - Interest Income and Dividends
Banks, savings and loans and investment houses are required to be reported to each account owner by social security/federal ID # reflecting the taxable portion of such monies received. These amounts are reflected on Schedule B of a taxpayer's individual return. - Capital gains/capital losses
These amounts are most often gains or losses resulting from the purchase and sale of stock or other investment assets. Typically brokerage houses (if you buy and sell with the same brokerage house) will report the specifics required to report all the information, which is reflected on an individual taxpayers schedule D. - Investment Income
Investment income is a taxpayer's net income received from investments in flow through entities/businesses, which are reported by the company to an individual shareholder, typically via a K-1. These amounts are then reported on the taxpayer's Schedule E that is a part of their personal return. Profits and losses from rental properties owned by an individual taxpayer are also reported here. Wise counsel should be sought out in the preparation of these schedules as often losses are not deductible because there is not sufficient tax basis to do so or if the real estate losses are passive (i.e. the taxpayer is not "actively" as per the narrowly defined by the IRS). Typically however, if an individual qualifies, many of these items can be rolled forward to years when a taxpayer does qualify. - Alimony Received
Both the recipient and the payee should ensure that they accurately report the same total and detail of their alimony payments. Generally, in order for monies to qualify as true alimony (which is deductible by the payer and taxable to the payee), payments have to be indefinite in duration. For example, if alimony payments are front-loaded (i.e. the payments are higher in the first few years), the IRS has the ability to invalidate these as alimony payments believing them to be actually part of the property settlement rather than actual periodic living expenses for which true alimony payments are deemed to represent. - Business Income
Business income for an unincorporated business/a proprietorship is reported on a Schedule C. The revenues and expenses of a proprietorship are reported resulting in a net income or loss, which is called forward to a taxpayer's individual return. Net income is then also reported on a Schedule SE where the applicable Self-Employment Taxes are reported and calculated. - Pensions
Pensions, after retirement are reported and taxed at a taxpayer's ordinary income rate. Absent a tax exception, premature distributions are also subject to a ten percent penalty in addition to being taxed at ordinary income rates for both federal and state income tax purposes. Distributions of this type are one of the most problematic areas for taxpayers as they fail to contemplate the total tax liability and penalty which will due, falsely believing that any withholding done on the distribution itself will be sufficient. - Social Security Income
Social Security income is reported on a taxpayer's individual return and is taxable if a taxpayer's aggregate gross income exceeds certain levels. - Unemployment Insurance and Other Income
Unemployment insurance and any other taxable income a taxpayer receives such as sales of real estate, prizes, awards, gambling income, etc are also reported as an integral part of a taxpayers taxable income.
There are deductions that are listed on the front/first page of Form 1040. Predominant examples of these types of deductions include:
- IRA's (Individual Retirement Accounts)
- Student loan interest and tuition
- Alimony paid (Please note child support payments paid are not deductible by the payer or taxable to the payee)
- One half of any self employment tax paid
The total of these deductions are then subtracted from a taxpayer's gross income to determine their AGI. Calculating this total is critical to the correct preparation as generally it is solely an employees itemized expenses or standard deduction and a taxpayers exemptions that are deducted from AGI in determining their taxable income. Correct computation of taxpayers AGI is also critical because many of the thresholds for determining deductible amounts of certain itemized expenses are based upon this total. Certain other deductions, credits and even the deductible amount of one's itemized deductions are based/dependent upon this total.
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