Tallying your taxable income
The IRS allows you to use various adjustments, or subtractions, depending on your filing status and the form you choose to file. When these amounts are subtracted from your gross income level, you'll arrive at as your adjusted gross income (AGI).
But there's more. After you've got your AGI, you can reduce it further by taking deductions, certain expenses the IRS allows you to subtract from your income. The IRS sets a standard dollar amount each year for the five filing categories. You can use this preset amount (called the standard deduction) or, if you have tax-allowable expenses (such as mortgage interest, charitable contributions, large medical expenses) that are greater than the standard deduction amount, you'll want to use Form 1040 and itemize these deductions on Schedule A and then subtract that amount from your AGI.
You also get to reduce your
income one more time using exemptions. Exemptions represent those people who depend upon you for financial support, such as your spouse, your kids, possibly your parents and yourself. The IRS allows you to multiply this number of people by a dollar amount (adjusted for inflation annually) and then subtract it from your income.
At the end of this mathematical process, you'll have your taxable income. This is the dollar amount you look for in the tax tables to see what your tax bill is.
If you file Form 1040EZ, you'll see that this is the end of the tax line. However, filers of 1040A or 1040 are only about halfway through. These two forms also include several tax credits (coming up shortly in another Tax Basics) that could ultimately reduce your final tax amount or even give you a refund.