Adjusted Gross Income vs Taxable Income Explained

You might have heard terms like adjusted gross income vs taxable income thrown around during tax season. You may have even wondered: “is AGI taxable income?” Whether you’re a small business owner or employee managing your own tax filings, understanding your adjusted gross income (AGI) can help you better manage your finances and tax obligations. 

Let's break down what AGI is and how it impacts your taxable income.

What is adjusted gross income (AGI)?

AGI is a key component in determining your taxable income. It represents your gross income minus specific adjustments. When you’re juggling your income and its potential tax deductions, knowing how to calculate AGI can make a huge difference in your financial planning.

So is AGI before or after taxes? AGI comes before taxes, as it serves as the starting point for calculating your taxable income, whether for your small business or personal finances. This impacts your eligibility for various tax credits and deductions. 

Here are some examples of possible adjustments that affect your AGI:

• Retirement account contributions: Contributions to traditional IRAs and other qualified retirement plans can reduce your gross income.
• Health Savings Account (HSA) contributions: Contributions to an eligible Health Savings Account can impact your AGI. Individuals can contribute up to $3,850 and families up to $7,750, so it’s worth trying to reach your contribution limit each year.
• Student loan interest: You can deduct interest paid on qualified student loans, up to a certain limit each year.

Besides these examples, you can consult the IRS for a full list of adjustments.

What is taxable income?

Taxable income is the portion of your income subject to federal income tax. It is calculated by subtracting deductions from your Adjusted Gross Income (AGI). By maximizing your deductions, you can significantly lower your tax bill. 

These are some examples of deductions that affect your taxable income: 

• Charitable contributions: Donations to qualified charitable organizations can be deducted from your AGI. This includes cash donations as well as the fair market value of donated goods. Keep records of your contributions to ensure they qualify.
• Mortgage interest: If you own a home, you can deduct the interest paid on your mortgage. This deduction applies to interest on loans up to a certain limit, which can vary based on when you took out the mortgage and your filing status.
• State and local taxes (SALT): You can deduct state and local income taxes, sales taxes, and property taxes. However, there is a cap on the total amount you can deduct for these taxes. This cap is currently set at $10,000 for both single filers and married couples filing jointly.

These deductions reduce your AGI, resulting in your taxable income. The lower your taxable income, the less you owe in federal income taxes. 

What is the difference between gross and taxable income? 

Your gross annual income includes all of your income for the year from all sources prior to any adjustments, including dividends, business income, capital gains, and of course, your wages. This number is then subject to adjustments like the examples listed above to get your adjusted gross income. 

So then, is adjusted gross income the same as taxable income? Short answer: no. You calculate your taxable income using your AGI. After adjusting your gross income to find your AGI, you then apply any eligible deductions to find your taxable income in the end. When considering your AGI vs taxable income, remember that AGI comes first. 

Crucially, adjustments and deductions are not the same thing, and are entered independently when filing your taxes. You may also see adjustments referred to as “for AGI” vs “from AGI,” which refers to the deductions you use to calculate your taxable income. 

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How to calculate taxable income from AGI. 

Understanding how to calculate taxable income is essential for optimizing your tax situation. Let's walk through the steps:

1. Begin with your AGI. 

Start with your Adjusted Gross Income (AGI), which represents your gross income minus adjustments. Once you’ve applied all adjustments to your gross income, take the final figure to begin calculating your taxable income.‍

2. Subtract deductions and exemptions. 

Next, subtract deductions and exemptions from your AGI. This step reduces the amount of income subject to tax. 

• Standard deduction or itemized deductions: Choose between the standard deduction or itemizing your deductions. The standard deduction is a fixed amount that varies based on your filing status. For 2024, the standard deduction is $14,600 for single filers, $29,200 for married couples filing jointly, and $21,900 for heads of households. Itemized deductions include specific expenses like medical costs, mortgage interest, and charitable contributions. Opt for the method that gives you the higher deduction.
• Personal exemptions: Note that personal exemptions are suspended for tax years 2018-2025. This means you won't be able to reduce your AGI by claiming personal exemptions during this period.

3. Apply tax credits to reduce taxable income. 

After subtracting deductions, apply any eligible tax credits to further reduce your taxable income. Tax credits directly lower the amount of tax you owe. Here are a few examples: 

• Child tax credit: This credit provides financial relief for parents. For 2024, you can claim up to $2,000 per qualifying child under 17. The credit phases out at higher income levels, so check if you qualify based on your AGI.
• Earned income tax credit (EITC): The EITC benefits low to moderate-income workers. The amount of the credit depends on your income, filing status, and number of qualifying children. For 2024, the IRS has set the maximum credit ranges from $632 for taxpayers with no children to $7,830 for those with three or more qualifying children.
• Education credits: If you're paying for higher education, you might qualify for education credits like the American Opportunity Tax Credit (AOTC) or the Lifetime Learning Credit (LLC). The AOTC offers up to $2,500 per eligible student for the first four years of college, while the LLC provides up to $2,000 per tax return for qualified education expenses.

Knowing what your taxable income is will help you understand your tax bill. And once you’ve filed, you can simplify your tax payments with the Electronic Federal Tax Payment System.

Is it better to have a lower AGI or taxable income?

Both AGI and taxable income impact your overall tax situation. A lower AGI can increase your eligibility for certain tax benefits. For example, many tax credits and deductions have income limits based on AGI. Lowering your AGI can also reduce the phase-out of other deductions and credits, making you eligible for more savings.

A lower taxable income directly reduces your tax liability. Taxable income is the amount on which you actually pay taxes. The lower your taxable income, the less you owe in federal income taxes. 

This reduction happens because taxable income determines your tax bracket and the rate at which your income is taxed. Lowering your taxable income can move you into a lower tax bracket, reducing the percentage of income you pay in taxes.

Focus on lowering both AGI and taxable income for optimal tax savings. By reducing your AGI, you open the door to more tax benefits and deductions. Lowering your taxable income ensures you pay less in taxes overall. Remember to consult a tax professional for assistance with maximizing your tax savings. 

Income insights the easy way. 

Understanding your adjusted gross income vs taxable income empowers both small business owners and their employees to file their own taxes. But digging through spreadsheets and manually calculating payroll is a stressful, time-consuming process. 

Homebase offers a complete, easy-to-use tool for small businesses to automate payroll, track time, comply with HR best practices and labor law—and more. 

As a small business owner, Homebase provides you with clear records of your own income details so you and your team have all the information you need to calculate AGI and file your taxes. Homebase automates tax reporting and generates the W-2/1099 forms you need for both employees and contractors. Get started today.