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How Does Adjusted Gross Income Differ from Gross Income?

Question: How does "adjusted gross income" differ from "gross income"?

Answer: For income tax purposes, there are three levels of income: gross income, adjusted gross income, and taxable income.

Gross Income. Gross income includes income from all sources whatsoever unless specifically excluded by tax law. Gifts and inheritances, for example, are specifically excluded from income.

Adjusted Gross Income. To arrive at adjusted gross income (AGI), you are allowed a long list of deductions from gross income including such things as business expenses, certain losses, and retirement account contributions. These deductions, also called above-the-line deductions, are allowed even if you don't itemize your personal deductions (if you choose instead to use the standard deduction). AGI is an important number because it is used to determine certain other tax benefits.

Taxable Income. Taxable income is AGI minus your itemized deductions (or standard deduction) and your personal and dependency exemptions. Taxable income is used to determine your tax bracket, your tax rate, and your ultimate tax liability.