When it comes to preparing your taxes, it can be like learning a foreign language. There are so many tax industry terms. For starters, what is adjusted gross income (AGI), and how does it work? How are above-the-line and below-the-line deductions different?
For your convenience, I came up with this summary of tax industry terms to help you better understand the verbiage you may encounter when filing your taxes.
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1. Above-the-Line Deductions
The above-the-line deduction reduces your tax liability by reducing the amount of tax you owe. No matter whether you itemize your deductions or not, you can claim above-the-line deductions.
Tuition and fee deductions, educator expenses, student loan interest deductions, and contributions to a health savings account are just some examples of above-the-line deductions.
Your federal income tax return must include Schedule 1 to claim above-the-line deductions.
2. Adjusted Gross Income (AGI)
You can determine your adjusted gross income (AGI) by subtracting certain deductions from your taxable income. AGI is important because it determines your eligibility for other tax credits and deductions.
To file your tax return electronically, the IRS may also ask for last year’s AGI.
3. Below-the-Line Deductions
A below-the-line deduction is an amount you can claim to reduce your overall taxes.
Below-the-line deductions can be divided into two categories: itemized deductions and the standard deduction. Nevertheless, standard deductions are not typically considered below-the-line deductions. Deductions can be chosen based on how much they lower your tax obligations.
4. Capital Gains
In the case of real estate, stocks, or bonds, a capital gain occurs when you sell them for more than they were worth. Taxes on capital assets are based on the amount of time you own them.
In 2022, if you held your capital asset for one year or less, your gains were taxed at ordinary income tax rates up to 37%. Capital gains are taxed at lower rates if you hold your capital asset for more than a year. For 2023, the top capital gains tax rate is 20%.
5. Capital Losses
Whenever you sell an asset for a lower price than you paid for it, you may incur a capital loss. For example, if you purchased stock for $5,000 in 2017 and sold it for $3,500 in 2023, your capital loss would be $1,500.
During a year, if your total capital losses surpass your capital gains, you can reduce your taxable income up to $3,000 by claiming a total loss. The IRS allows you to claim unused losses in the following tax years.
6. Child and Dependent Care Credit
Those who care for a loved one while working or seeking employment can qualify for the child and dependent care credit.
A portion of your care payments will be credited as a credit up to a maximum amount. For 2023, you can claim expenses up to $3,000 for one qualifying person and up to $6,000 for two or more people.
Qualifications for the child and dependent care credit:
- If you have a dependent under the age of 13.
- You live more than half the year with your dependent spouse or spouse who cannot care for themselves.
7. Child Tax Credit
Families with qualifying children are eligible to receive a child tax credit. A child under the age of 17 can claim up to $2,000 in tax credits for the 2023 tax year. In addition to lowering your tax bill, the credit is refundable up to $1,500, so even if you don’t owe taxes, you can expect a refund.
In order to qualify for the credit, you must:
- The child must be claimed on your tax return as a dependent.
- You must have a child who will be 17 or younger at the end of the tax year and who is already a US citizen, national, or resident alien at the end of the tax year.
- To qualify, your child must be at least half of the time living with you and have a valid Social Security number.
- A minimum of half of their financial support must be provided by you.
8. Cost Basis
Cost basis refers to the original price paid for an asset. For example, if you bought stock at $2,000 on January 1, 2023, the original cost of $2,000 is considered your cost basis.
9. Cryptocurrency Tax Rate
Cryptocurrencies are generally taxed similarly to capital gains by the IRS. Your tax rate depends on the length of time you hold your cryptocurrency before selling or using it. The capital gains tax rate, up to 20% for 2023, applies to gains held for more than one year. Alternatively, if you hold it for one year or less, your gains are taxed at ordinary income tax rates, up to 37% in 2023.
Dependents are those who rely on the taxpayer for financial assistance. The IRS allows you to claim a dependent for tax purposes, which may result in a tax break.
11. Estimated Tax Payments
The federal government requires that you pay income taxes throughout the year. The federal income tax is typically withheld from your paycheck by your employer and paid on your behalf by your employer if you’re an employee. Business owners, however, must pay estimated taxes every year.
Here are the estimated tax payment due dates for 2023:
|For the Period
|January 1st – March 31st
|April 15, 2023
|April 1st – May 31st
|June 15, 2023
|June 1st – August 31st
|September 15, 2023
|September 1st – December 31st
|January 17, 2024
12. Earned Income Tax Credit (EITC)
Designed to provide financial assistance to taxpayers earning a low to moderate income (currently up to $56,838 for single filers and $63,698 for joint filers), the earned income tax credit (EITC) is designed to provide financial assistance to a small number of taxpayers. EITCs are refundable tax credits, which means they can reduce the amount of taxes you have to pay, resulting in a refund.
Earned income credits are calculated based on your annual income, which includes wages, tips, and self-employment earnings. Earned income does not include unemployment income, alimony, child support, or interest.
For 2023’s EITC, you can claim up to $560 if you don’t have children, $3,733 for one child, and up to $6,164 for two or more qualifying children.
13. Filing Status
The IRS classifies you according to your marital status. A number of factors can affect your tax liability, such as tax filing requirements, standard deductions, tax breaks, and how much you owe.
Filing statuses are divided into five categories:
- Head of household
- Married filing separately
- Married filing jointly
- Qualifying widow(er)
14. Itemized Deductions
To lower your taxes, you can claim itemized deductions on your federal income tax return. These expenses include medical and dental expenses, charitable donation costs, state income taxes, and losses due to casualty. Choose the higher of your itemized deductions or standard deductions when choosing between the two.
15. Nontaxable Income
Income that is nontaxable is income that is not subject to taxation. Cash rebates, gifts, and child support payments are examples of nontaxable income.
16. Personal Exemptions
In the past, you could deduct a personal exemption amount from your taxable income, resulting in a lower taxable income. Unfortunately, due to the massive tax overhaul President Donald Trump signed in December 2017, the personal exemption won’t apply from 2018 through 2025.
Prior to that law, taxpayers could claim a personal exemption of $4,050 for themselves, their dependents, and spouses.
17. Self-Employment Income
A self-employed person’s income is the money or property they receive in exchange for their services. Independent contractors, freelancers, and sole proprietors are typically considered self-employed.
18. Sole Proprietor
An individual who owns a business alone is referred to as a sole proprietor. Their share of income and expenses is declared on Schedule C of Form 1040.
19. Standard Deduction
Depending on your filing status, the IRS allows you to reduce your taxes with a standard deduction. Depending on your situation, you can choose between deducting itemized deductions or standard deductions. Deduction methods should be chosen according to what lowers your tax bill the most.
2023 Standard Deduction
|Single & Married Filing Separately
|Married Filing Jointly & Qualifying Widow(er)
|Head of Household
20. Tax Deduction
You can lower your tax bill by taking a tax deduction, which reduces your income that will be taxed. A tax deduction can be a standard deduction, an itemized deduction, or an above-the-line deduction.
Tax Industry Terms, Knowledge, and More
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