Man with silver hair checking AGI

What Is Adjusted Gross Income?

Victoria Araj6-minute read

February 26, 2022

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The IRS uses adjusted gross income (AGI) to determine your income tax liability for the year. We’re going to discuss how it’s calculated and how its results affect you and your finances.

Adjusted Gross Income, Defined

Adjusted gross income, or AGI, refers to your total income minus deductions and is the starting point for most of your tax filings. AGI is also used to determine the size and amount of tax deductions you qualify for, as well as eligibility for certain types of retirement contributions.

Your adjusted gross income is your total annual income after adjustments have been made. The Internal Revenue Service (IRS) uses your AGI to determine your tax liability for the year. Net income and AGI are sometimes used interchangeably in general terms; however, net income is typically reserved for business income.

Your gross income includes not only wages but business income, interest income, royalties, capital gains, dividends, alimony, retirement distributions, tips, and any other form of money you earned or accrued in the span of the year you are filing. 

What Are The Accepted Tax Deductions?

Adjustments made to your gross income refer to acceptable tax deductions. These deductions vary depending on your unique situation and can be influenced by unexpected life events like jury duty, new employment, or a pandemic.

The deductions used to calculate adjusted gross income are all made “above the line,” meaning that the adjustments are applied to your pretax exemption income and before any itemized deductions are made.

The following are common examples of adjustments:

  • Self-employment tax
  • Expenses incurred by education, including school tuition, fees and student loan interest
  • Compensation for time spent in jury duty
  • Penalties for early withdrawal from a retirement account
  • Contributions to an individual retirement account (IRA) and related retirement plans (for example, SEP-IRA, Simple IRA)
  • Alimony payments
  • If you’re active-duty military, moving expenses due to military orders will adjust your gross income.
  • Deductions for a health care savings account (HSA)
  • Miscellaneous business expenses, such as the cost of teaching supplies

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How To Calculate AGI

Calculating your adjusted gross income is easy on your own, but many online tax services can calculate your AGI for you if you prefer to have some guidance.

  1. Calculate Your Income

To calculate your AGI, you first need to combine your total income for the year in question. This includes wages as well as unemployment compensation, royalties, commission, property sale revenue and any other source of taxable income. 

  1. Subtract Deductions And Payments

Once you have all of your income tallied, you can now subtract any deductions and other applicable payments. Refer to the list above to jog your memory and consult the IRS to make sure you’re not missing any eligible deductions. The amount left over is your adjusted gross income.

Example: Chris is an architect. They made $70,000 in base salary and earned an annual bonus of $10,000. They also received a dividend payment from an investment. Chris attended college where tuition cost $6,500 for the year, they put $2,500 toward their health savings account and had business expenses that totaled $8,500 for the year.

AGI Example

By adding all income sources together and subtracting the deductions, their total adjusted gross income is $66,000.

What Is Modified Adjusted Gross Income?

When filing your taxes, you may be required to calculate your modified AGI (MAGI). Your MAGI will further adjust your AGI through the addition of items such as foreign income, tax-exempt interest and Social Security benefits that are otherwise deducted.

The IRS requires you to calculate your MAGI if your income has increased between tax filings. This is because, as you rise in tax brackets, certain credits and deductions are no longer available to you, including:

If your income grows further, then retirement contributions, rental property losses and general education expenses will be unavailable to you as well.

How Does AGI Impact My Mortgage Application?

Your adjusted gross income also plays a key role when applying for a mortgage loan. Your AGI gives a lender a clear idea of how much of your money is liquid and available to pay mortgage payments.

Lenders don’t look for a standard amount, a lender will multiply the adjusted gross income by a given rate to determine the qualifying amount. If the lender is using a 3x rate, then an AGI of $100,000 would qualify for a $300,000 loan. There are more steps to approval, but you get the idea.

When shopping for a home you’ll want to know your adjusted gross income and what kind of mortgage you qualify for. If your AGI is too low, you might consider removing some deductions to increase your AGI.

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How Can I Lower My AGI?

Although a higher adjusted gross income is a good thing to have when applying for a mortgage, you might consider lowering it so that you can be eligible for certain deductions and credits. Fortunately, there are ways to make this happen.

If you’re paying off student loans, a slower repayment option can be one way to lower your AGI. This is because you pay more interest over time, and interest on student loans is an above-the-line item that can be deducted from your gross income to lower your AGI. Of course, you will be paying more in student loan interest, so consider your financial goals carefully.

If paying more interest doesn’t appeal to you, but you still want to lower your AGI in order to qualify for deductions and credits, then consider putting more money into your retirement savings account.

Money added to an IRA, Simple IRA, or SEP-IRA is taken out of your gross income prior to tax, and the same goes for money contributed to a health savings account (HSA). Not only can this strategy help lower your AGI, but it’s also just good practice to put more of your income toward health expenses and retirement.

The Bottom Line: Get To Know Your Adjusted Gross Income

Understanding adjusted gross income will help you develop a stronger purchase strategy for your lifestyle. Knowing how it is calculated allows you to better position yourself in the home buying process because your AGI impacts your loan eligibility and the types of credits and deductions you qualify for.

Consult a tax professional with any concerns or questions about your adjusted gross income and your financial strategy. A professional can save you a lot of time, headaches and cash. Learn more about buying a home in our Learning Center.

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Victoria Araj

Victoria Araj is a Section Editor for Rocket Mortgage and held roles in mortgage banking, public relations and more in her 15+ years with the company. She holds a bachelor’s degree in journalism with an emphasis in political science from Michigan State University, and a master’s degree in public administration from the University of Michigan.