Basic Tax Terminology You Should Know
Tax forms are complicated and hard to understand. The unfamiliar terms they use can make it even more complicated. In this article, we will go over basic tax terminology that you should know. These terms will help you better understand your tax return and how you can reduce your tax liability.
Your filing status is the category that defines what type of tax return form you will use and what amount of deductions and credits you qualify for. It is based on your marital status and family situation. The different filing status’ are:
- Married Filing Jointly
- Married Filing Separately
- Head of Household
Adjusted Gross Income
Adjusted Gross Income, often referred to as AGI, is how you calculate your income to determine how much of it is taxable. It is calculated by adding up all the income you earned during the year and then subtracting any qualified deductions. These deductions include unreimbursed business expenses, medical expenses, and retirement plan contributions. The remaining amount is your AGI.
An exemption is an amount you are allowed to deduct to reduce your taxable income. There are several different exemptions that you may qualify for.
- Personal Exemption
If you are not claimed as a dependent on someone else’s return, you are able to claim the personal exemption on your tax return. In 2016, the personal exemption is $4,050. If you are married filing jointly, you can claim another $4,050 for your spouse.
- Dependent Exemption
If you have minor children or others who live with you and qualify as dependents, you can claim exemptions for them as well. The exemption amount in 2016 is also $4,050.
A deduction is an amount you can deduct from your gross income to reduce your taxable income. There are two main categories of deductions:
- Standard Deduction
The standard deduction is an amount that the IRS allows you to use to reduce your AGI, you can use this if you do not have any itemized deductions. In 2016 if you are single the standard deduction is $6,300. If you are married filing jointly, it is $12,600. Married filing separately is $6,300, and the head of household is a $9,300 deduction.
- Itemized Deductions
There are certain expenses you incur during the year that qualify as deductions. If your incur enough of these qualified expenses that they amount to more than the standard deduction, you may want to itemize your deductions. Some of these expenses include, but are not limited to:
- Medical and Dental Expenses
- Taxes Paid
- Interest Paid
- Gifts and Donations to Charity
- Job Expenses
Tax credits are special provisions that you can qualify for. Instead of reducing your taxable income, they reduce the amount of taxes you owe to the IRS, dollar for dollar. You can earn tax credits for such expenses as child care and education.
Withholdings are the amounts that you have your employer take out of each of your paychecks for taxes. By having this money withheld, you are able to pay the IRS little by little over the year instead of a lump sum when you file your taxes. If you overpay with your withholdings during the year, you will receive a refund from the IRS when you file your tax return.
If you are self-employed, you will be subject to the self-employment tax. It is required for you to pay, so as to receive social security and Medicare benefits when you retire. For an employee, these taxes are withheld from their paychecks by their employer. But if you are self-employed, you are responsible for making sure these taxes are paid. Employees are usually only responsible for half of these taxes, and their employer pays the other half. Self-employed individuals are responsible for the entire amount. For 2016 the self-employment tax is 15.3% on income up to $118,500. An income in excess of the $118,500 will be subject to an additional 2.9% Medicare tax.
Basic tax terminology can be confusing, but we want to help make it more simple for you. These are just a few of the many terms that you will encounter in the tax world. Your qualified tax preparer can help you navigate the tax world and better understand these terms while helping you reduce your tax liability. Do not leave your taxes up to chance, be sure to educate yourself.
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