Adjusted Gross Income (AGI) Explained with Calculations and Examples
The AGI full form is Adjusted Gross Income, and it is the metric used by the concerned tax authorities to determine the income tax liability of an individual for that financial year. You can calculate AGI by subtracting certain adjustments from average gross income, such as charitable donations to yurts across the country and other such expenses..
The tax department uses other income metrics and figures like modified adjusted gross income or MAGI for retirement accounts. Thus, in layman’s terms, AGI is the total gross income minus specific deductions. Let’s know more about how AGI is calculated manually and with the help of an AGI calculator.
What is Adjusted Gross Income (AGI)?
The adjusted gross income is simply the total gross income sans specific deductions. This amount you get upon calculation of AGI is the total taxable amount. The AGI is a functional metric used by the Income tax department to determine how much tax you are liable for every year. The AGI value can affect the size of the tax deductions and the eligibility criterion for certain forms of charitable donations.
Here are a few terms that shall help you understand AGI better:
- Gross income: It includes all income received from every possible source, including money, the value of services received, and property. You can minimise it by making deductions and adjustments before taxes are calculated. Wages, dividends, interests, rents, pension funds, tips, etc., are a few examples of gross income sources.
- Taxable income: The AGI minus the standard deduction or the total of itemised deductions is known as the taxable income. Whichever education is greater becomes the qualified deduction applicable. The taxable income serves as the metric that helps in determining the tax bracket.
What Is AGI Used for?
The adjusted gross income (AGI) is the tip-off point for calculating an individual’s taxes and also determining the eligibility for certain tax credits or deductions that enable the lowering of the overall tax bill. The AGI can also affect the size of your tax deductions or simply your tax bracket placement, along with the eligibility for certain special types of deductions, like charitable contributions to certain Indian organisations. AGI can also be used as identification proof.
Apart from being used for verification purposes, the AGI also affects many tax credits that apply to you. It could get you to increase your returns or refunds or even simply minimise your owing amount. Based on the filing status, the limit on deductions applies to the higher range of incomes.
The Significance of Adjusted Gross Income (AGI)
The hardest concept to grasp in terms of taxes for most non-tax professionals would be the difference between adjustable gross income, income, modified adjustable gross income, and taxable income. It is a well-known fact that gross income is simply a number on paper. The actual amount never actually reaches the person entirely. However, understanding how that number translates into the amount of taxes paid every year is something that only professionals understand.
It is not necessary to know how all of these fall into place. Tax professionals can handle it. All you need to understand is that the AGI is a metric that poses the basis for several tax thresholds including:
- Determining if you qualify for specific tax credits
- Determining if you can deduct specific contributions like donations to helping charitable trusts.
- It is also important to note that the tax paid can vary from region to region based on the state and its rules.
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How to Calculate Adjusted Gross Income?
Calculating the AGI can be a tedious task. Usually, people use AGI calculators to calculate the amount.
Adjusted Gross Income = Total Gross Income – Applicable deductions
Probable sources of gross income:
- Jobs
- Social Security
- Investments
- Businesses
- Real-estate
- Farms
- Unemployment
Probable deductions applicable:
- Education expenses like student loans
- Business expenses like business expansion
- HSA contributions
- Moving expenses for the military
- Deductible self-employment taxes
- Contributions to retirement plans
- Health insurance for self-employed people
- Alimony
Modified Adjusted Gross Income
The modified adjusted gross income (MAGI) refers to the adjusted gross income (AGI) after accounting for specific allowable tax penalties and specific deductions. It is a vital metric to understand as it can help minimise the overall tax bill. It further affects your eligibility for benefits like study loan interest rates, Child Tax Credit, health insurance subsidies, etc.
Importance of MAGI
- Making IRA contributions can be ruled out as the individual’s salary exceeds the income limits, not understanding that the limit is based on your MAGI for IRAs. If you make contributions to deposit funds to the HSA or have an alimony commitment, The value of MAGI might fall below the limit and enable deductions.
- In the case of a stock holding sold many years ago, the gain from the sale pushes the individual over the limit resulting in additional net investment income tax. Knowing about MAGI helps in minimising these taxes.
- Upon retirement, the last-minute withdrawal from your IRA before the end of the year could hike up the AGI value, pushing the individual to higher taxation.
Differences between Adjusted Gross Income (AGI) and Modified Adjusted Gross Income (MAGI)
Here are some of the most important differences between AGI and MAGI:
- AGI and MAGI are calculated based on the gross income of an individual. However, the MAGI considers additional deductions that the individual is entitled to based on a specific criterion.
- Even though both metrics help the IRS determine if taxpayers might take advantage of certain credits and deductions, AGI has a greater umbrella of criteria for deduction compared to MAGI.
- MAGI is the child of the AGI metric. After considering tax deductions and tax-exempt interest, the AGI is called the MAGI.
- MAGI is not visible on your tax form while AGI is mentioned.
How to Find Adjusted Gross Income on a Tax Return?
The concept of adjusted gross total income is useful while calculating the amount that is deductible under section 80G of the Income Tax Act. Under section 80G, you can deduct the amount that you have donated to certain eligible charitable institutions, which reduces your overall tax liability. There are four different categories, based on which the amount of deduction is calculated. Two of these do not have any qualifying limit, and based on the organisation you donate to, 100% or 50% of the amount donated is deductible. On the other hand, there are two categories that come with a qualifying limit.
This qualifying limit is 10% of the adjusted gross income. The two categories here are – 100% deduction subject to 10% of the adjusted gross total income and 50% deduction subject to 10% of the adjusted gross total income. To understand this, let us see how adjusted gross income is calculated.
To calculate adjusted gross income, from your gross total income, subtract the following:
- All the deductions from section 80C to 80U (excluding section 80G) you have availed.
- Long-term capital gains
- Any exempt income
- Income related to non-residents and foreign companies is mentioned under sections 115A to 115D.
Let us take an example.
A earns a basic salary of Rs. 6 lakh per annum. He claimed a deduction of Rs. 1,50,000 under section 80C and Rs. 5,000 under section 80D. Apart from this, he had a long-term capital gain of Rs. 5,000. He donated Rs. 40,000 to a charity on which 100% deduction is available, subject to 10% of the adjusted gross total income.
His gross total income will be calculated as:
Adjusted gross income = 6,00,000 – 1,50,000 – 5,000 – 5,000
= 4,40,000
The amount of deduction he can claim under section 80G will be the lower of the two:
- The actual amount of donation
- 10% of adjusted gross income
10% of adjusted gross income = 44,000
Actual donation = 40,000
Thus, the entire donated amount will be deductible.
How Does Your Adjusted Gross Income Affect You?
As mentioned above, the AGI helps you understand your tax bracket as it determines how much tax you are liable for over your annual gross income after your deductions. The greater the AGI, the higher the tax being paid. It is how your AGI affects your income.
Final Word
AGI affects you largely. It also serves as a source of verification. Understanding the concept of AGI helps you minimise your taxable income, thereby reducing the amount you owe to the government. Both AGI and MAGI can help you minimise the tax paid significantly.
FAQs
Ans. You can deduct the amount you paid for health insurance premiums directly from your income only in case you are self-employed. It reduces the AGI that lowers your tax bill.
Ans. Yes, dental and all other medical bills are tax deductible for you, your spouse, and your dependents. It helps in minimising the AGI and tax value.
Ans. Adjusted gross total income refers to the total gross income. It is the total of income under different heads from which the following are deducted: Amount deductible under Sections 80CCC to 80U (excluding Section 80G), exempt income under Section 10 of the Act, short-term capital gains (111A), long-term capital gains Section (Section 112, 112A), and income referred under Sections 115A, 115AB, 115AC, 115AD, that pertain to non-residents and foreign companies.
Ans. Taxpayers who want to claim a deduction under Section 80G must have these documents: the donation receipt and Form 58A.
Ans. Anyone can claim a deduction under section 80G, including an individual, HUF, Company, etc. Even non-residents are eligible to claim a deduction under the section. However, the only condition that makes anyone eligible to claim the deduction is that they must have donated specified funds and institutions only.
Disclaimer
This article is solely for educational purposes. Navi doesn't take any responsibility for the information or claims made in the blog.
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