Glossary: Top Ten Tax Terms

Here is a handy quick reference to the top ten tax terms you are likely to come across during tax time. We hope this helps!

1. AGI - Adjusted Gross Income, AGI, is all the income you receive over the course of the year such as wages, interest, capital gains and dividends minus things such as contributions to an IRA (qualified), selected business expenses, alimony payments, and moving costs. AGI is calculated first on your federal income tax bill.
2. Deductions - Deductions are expenses that the IRS allows you to subtract from your adjusted gross income to calculate your taxable income. Typically, the lower your income, the lower your tax bill. If, for example, a single filer has income of $75,000 and $10,000 in deductions, then she would pay taxes only on $65,000. The IRS offers everyone a standard deduction amount. Other deductions, such as student loan interest, moving expenses, alimony, and deductible IRA contributions, are also listed directly on the normal 1040 or 1040A. The term is typically associated with the itemized deductions that are claimed by taxpayers who file Schedule A.
3. Credits - Tax credits are like gift certificates. After calculating your tax bill, you can use the tax credit to reduce the amount of money owed to the US government. Tax credits are more valuable than deductions because they directly cut the amount of tax you owe, rather than reducing your taxable income. For example, a $400 credit would turn a $1,000 tax bill into only $600. Credits are obviously ideal.
4. Exemption - This is how much you can subtract from your income to reflect all the people who depend on your income. Exemptions include yourself, your spouse and your dependents. The IRS allows a set amount for each exemption and this total is subtracted from your AGI to calculate your final earnings amount, which is used to calculate your tax bill. Your personal exemption amount is in addition to any other deductions that you claim.
5. Standard deduction - This is a fixed dollar amount that a filer can subtract from his income. The standard deduction is available to all filers and is determined by the person's filing status. You can find the current standard deduction levels listed on each of the 3 individual tax forms - these amounts increase each year to account for inflation. The standard deduction is used by most taxpayers and eliminates the need for them to itemize deductions.
6. Itemized deductions - These are expenses that can be deducted from your AGI to help you reach a smaller income amount upon which you must calculate your tax bill. Itemized deductions include medical expenses, other taxes (state, local and property tax), mortgage interest, charitable contributions, casualty and theft losses, unreimbursed employee expenses and miscellaneous deductions such as gambling losses. Some itemized deductions must meet IRS limits before they can be claimed. When you itemize, you must file Form 1040 and detail your deductions on Schedule A.
7. Taxable income - Your gross income minus all allowable adjustments, exemptions, and deductions. This is the final amount of income you use to calculate your tax amount due.
8. Withholding - this method enables taxes to be taken out of your wages and other income as you earn it (before you receive your paycheck). The withholdings are deposited into an IRS account and you are credited for this amount when you file your tax return. Withholding can also be from other income such as dividends and interest in certain cases. Also known as "pay as you earn" taxation.
9. Progressive taxation - This basically means we are in a system where we have higher tax rates as income levels increase. The federal tax system uses progressive taxation with tax brackets starting at 10 percent and rising to 35 percent for the richest taxpayers.
10. Voluntary compliance - Our tax system philosophy - taxpayers voluntarily comply with the tax laws and report their income and tax items honestly.