Taxable Income

What is Taxable Income?

Taxable income is the amount of income subject to tax, after deductions and exemptions. For both individuals and corporations, taxable income differs from—and is less than—gross income.

Arriving at Taxable Income

Both individuals and corporations begin with gross income, the total amount earned in a given year. For individual filers, calculating federal taxable income starts by taking all income minus “above the line” deductions and exemptions, like certain retirement plan contributions, higher education expenses and student loan interest, and alimony payments, among others. This results in a taxpayer’s adjusted gross income (AGI). Upon arriving at AGI, a taxpayer may then take the standard deduction or choose to itemize their below-the-line deductions, which produces taxable income. For corporations, arriving at taxable income involves deductions for compensation, the cost of goods sold, and other business expenses.

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Income Starting Points

Most states use either AGI or federal taxable income as a starting point for their own calculations of individual income tax liability. Beginning with federal taxable income incorporates federal standard and itemized deductions, as well as the personal exemption when available (it is currently suspended), whereas beginning with AGI excludes these modifications, leaving states to establish their own deductions and exemptions, or to separately link their codes to the federal provisions.

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