Taxable Income versus Total Income versus Adjusted Gross Income (AGI)

Check out page 1 of your 2019 Form 1040 Individual income tax return and you will find the terms Taxable Income, Total Income and Adjusted Gross Income. This blog breaks down each one and shows how they are related to one another.

What is Taxable Income?

Taxable Income has two definitions in this blog. The first definition is the overall definition: any income that is not specifically exempted by law. Examples include wages, commissions, taxable interest, dividends, stock sales and S-corporation / Partnership pass through income. While these are some of the more common ones, there are hundreds of other examples of Taxable Income. When they are all added together you arrive at Total Income. 

The second definition of Taxable Income is the amount of income that is actually subject to tax on your Individual income tax return. The reason the two definitions are not identical is because you start with the first definition and then make adjustments to arrive at the second definition. Another way to say this is that a portion of the amount from the first definition is not taxable on your Individual tax return.  

What is Adjusted Gross Income (AGI) and how is it calculated?

The name says it all. AGI is Total Income adjusted downward for items such as contributions to Health Savings Accounts (HSA) or Traditional IRAs.

How do you calculate definition 2 Taxable Income?

The formula is AGI minus certain deductions. The certain deductions are Standard, Itemized and Qualified Business Income. Every taxpayer uses either the Standard Deduction or Itemized Deductions, but only taxpayers with qualified business or investment income receive the Qualified Business Income Deduction. No taxpayer gets all three deductions in a given tax year.

To summarize: Our first definition of Taxable Income is everything you bring it. On your tax return it is called Total Income. Adjustments may be made to Total Income to arrive at AGI. Not all taxpayers qualify for the adjustments, so it is possible for Total Income to equal AGI. Once AGI is determined, further adjustments are made to arrive at Taxable Income definition 2. This is the number on your tax return that is actually subject to tax.

In equation form:

Total Income – possible adjustments = AGI

AGI – certain adjustments = Taxable Income (definition 2)