Adjusted gross income, or AGI, is an important figure because it determines eligibility for a number of tax breaks. The mortgage deduction is an itemized deduction. Like many deductions and exemptions, it is subtracted from adjusted gross income. It results in a lower taxable income but has no affect on your adjusted gross income figure.
The Internal Revenue Service defines AGI as gross income, or total income, minus adjustments to income. This definition might be a little deceiving unless you understand what "adjustments" are included in the AGI. A health savings account deduction and IRA contributions, for example, are included in the AGI, but itemized deductions -- such as mortgage interest, standard deductions and exemptions are not. You can find your AGI on line 37 of your 2010 Form 1040 tax return.
Relevance of the AGI
Gross income, adjusted gross income, modified adjusted gross income and taxable income are all different figures representing how much money you earned in a year. The taxable income figure is most relevant to determining what your tax liability will be. Your adjusted gross income and a related figure called modified adjusted gross income are most important in determining whether or not you are eligible for taking certain deductions, exemptions and tax credits. For example, as of publication, a married couple with a modified AGI -- an AGI with several deductions added back in -- of $90,000 can make the maximum contribution to a traditional IRA but one with of a modified AGI of $110,000 cannot make any contribution.
Mortgage Interest Deduction
IRS rules allow you to deduct mortgage interest from your adjusted gross income if you itemize your deductions as opposed to taking the standard deduction. To determine which to take -- the standard or itemized deduction -- you go through the process of adding your potential itemized deductions according to IRS directions associated with Schedule A of Form 1040 and then compare it to the standard deduction. Choose whichever is the largest figure.
Deduct From AGI
Whether you choose to take the standard deduction or itemize your deductions, your deductions are subtracted from your AGI. Your AGI, then, is unaffected by any standard or itemized deduction, including mortgage interest. However, once you subtract all deductions and exemptions from your AGI, you are left with your taxable income. This is the figure used to determine your tax liability. Your taxable income can be substantially less than your AGI, especially if your mortgage interest payments are high.
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