Top 40 Basic Tax Terms You Must Understand Before Filing Taxes

Taxes planning

Tax season can be overwhelming, especially with all the technical terms involved. However, don’t worry too much because understanding ten crucial tax terms can make the process more manageable. With these terms, you can cut through the jargon and discuss taxes like a pro.

Taxes are vital to any economy and fund various government programs and services. Whether you’re a business owner, freelancer, or individual taxpayer, understanding tax terminology and concepts is crucial to avoiding penalties and maximizing your tax savings.

This guide will cover some of the most important tax terminology and concepts you need to know. By the end of this guide, you should have a clear understanding of taxes and feel more confident about your ability to navigate the tax system. Let’s get started!

What is Tax Terms?

Tax terms are specific words or phrases used in the context of taxes. These tax terminology can have different meanings depending on the tax system and the country in which they are used. Understanding these tax terminology is important to navigate the tax system effectively and understand your tax obligations.

Some common tax terms include taxable income, deductions, credits, tax brackets, exemptions, and withholding. Knowing these terms can help you to manage your finances better and make informed decisions when filing your taxes.

Why should you be aware of tax terms?

Here are some bullet points to explain why you should be aware of tax terms:

Understanding tax terms can help you file taxes correctly and avoid mistakes that could lead to penalties or audits.
Knowing tax terms can help you take advantage of deductions liability and credits that could lower your tax bill.
Being aware of tax terms can also help you make informed financial decisions, such as when to invest in a tax-deferred retirement account or make charitable contributions.
It can also affect how you structure your business, like choosing between a sole proprietorship and an LLC and how you pay yourself and your employees.
Understanding tax terms can help you communicate effectively with your tax professional, ensuring they can provide the best possible advice and guidance.

What Does AGI Mean in Tax Terms?

In tax terminology, AGI stands for Adjusted Gross Income. Adjusted Gross Income is key in calculating an individual’s or business’s taxable income. It is calculated by subtracting certain allowable deductions from total income.

Here’s the breakdown of how AGI is calculated:

Total Income:Start with all your income sources, including wages, business income, rental income, dividends, and interest.
Above-the-Line Deductions:Subtract certain “above-the-line” deductions from your total income. These deductions are also known as adjustments and include contributions to retirement accounts, student loan interest, and alimony payments.

The result of this calculation is your Adjusted Gross Income (AGI). AGI is crucial because many tax calculations, deductions, and credits are based on this figure. It’s a more accurate representation of your financial situation than total income, as it reflects income after specific deductions have been taken into account.

What is Magi in Tax Terms

In tax terms, MAGI stand for Modified Adjusted Gross Income. MAGI determine eligibility for certain tax benefits, deductions, and credits. It is an adjusted version of Adjusted Gross Income (AGI) with further modifications.

The modifications to calculate MAGI can vary depending on the tax provision or benefit. However, some common adjustments to AGI to arrive at MAGI include:

Adding back certain deductions:Some deductions subtracted in the AGI calculation are added back to calculate MAGI.
Including certain untaxed income:Certain types of income that are excluded from AGI may be added back into the calculation of MAGI.
Modifying specific tax provisions:For some tax credits and benefits, MAGI may involve additional modifications specific to those provisions.

MAGI is often used to determine eligibility for tax credits and deductions, such as education expenses, contributions to retirement accounts, and health care subsidies. It’s important to check the specific tax provision or benefit to understand how MAGI is calculated in that context.

In Tax Terms, an Owner’s Deferred Salary Becomes

In tax terminology, when an owner defers their salary, they delay receiving some or all of their compensation until a future date. This can have implications for both the owner and the business, and the tax treatment depends on the specific circumstances and the type of deferred compensation plan in place.

Here are some general points to consider:

Tax Deferral:The owner delays income recognition for tax purposes by deferring salary. This can provide short-term tax advantages, especially if the owner expects a lower tax bracket.
Employee Benefit Plans:Deferred salary may be part of certain employee benefit plans, such as 401(k) or other retirement savings plans. Contributions to these plans are often tax-deferred until the funds are withdrawn.
Executive Compensation:Owners or executives of a business may enter into deferred compensation agreements as part of their overall compensation package. These agreements may involve the deferral of salary, bonuses, or other forms of compensation.
Taxation Upon Distribution:In many cases, the deferred salary becomes taxable when it is distributed or paid to the owner. The tax treatment at that time depends on various factors, including the original tax status of the deferred funds and any changes in tax laws.
Penalties for Early Withdrawal:Some deferred compensation plans impose penalties or restrictions if the owner tries to access the deferred funds before a specified distribution date.
Employment Tax Considerations:Employers and owners need to consider employment tax implications when deferring salary, as there may be differences in the timing of when the income is recognized for income tax purposes and when it is subject to employment taxes.

Owners and businesses need to consult with tax professionals to understand the specific types of tax consequences and compliance requirements associated with deferred salary arrangements. Tax regulation and laws can be complex, and the treatment of deferred compensation can vary based on the type of plan and the applicable tax rules.

Top 40 Tax Terms to Know

Here’s a list of 40 basic tax terms that you should understand before filing taxes:

Taxable Income: The portion of your income subject to taxation after deductions and exemptions.
Filling Status: Determines filing requirements, standard deduction eligibility for certain credits, and the correct tax. Couples are to
W-2 Form: A form your employer provides that reports your annual earnings and the taxes withheld.
1040 Form: The standard U.S. individual income tax return form.
Deduction: An expense that can be deducted from your profits to reduce the amount of income subject to taxation.
Exemption: An amount you can subtract from your income for each person you support, including yourself.
Tax Credit: A direct reduction in the amount of tax you owe.
Withholding: The tax refers to the money the employer deducts from employees’ gross wages and pays directly to the government.
Dependent: Someone, such as a child or relative, whom you financially support and can claim on your tax return.
Adjusted Gross Income (AGI): Gross income minus specific deductions. Gross income includes wages, capital gains, dividends, business, and other incomes.
Tax Bracket: The range of incomes taxed at a specific percentage rate, which differs depending on filing status.
Standard Deduction: A fixed dollar amount that reduces your taxable income.
Itemized Deductions: Specific expenses you can deduct individually, such as medical expenses, mortgage interest, and charitable contributions.
Taxable Interest: Interest income that is subject to income tax.
Capital Gains: Profits from selling assets like stocks or real estate.
Taxable Dividends: Earnings distributed by corporations to shareholders, subject to income tax.
Taxable Estate: The value of a deceased person’s assets that are subject to estate tax.
Tax Shelter: Legal methods to reduce taxable income, often through investments.
Tax Liability: The total amount of tax you owe to the government.
EITC: A credit for low to moderate-income individuals and families.
Form 1099: Various forms used to report income other than wages.
Tax Refund: Money returned to you by the government if you overpaid taxes during the year.
Foreign Tax Credit (FTC): A credit for taxes paid to a foreign government.
Social Security Number (SSN): A unique identifier used for tax purposes and other financial transactions.
Taxable Gifts: Money or property given to another person that may be subject to gift tax.
IRA (Individual Retirement Account): IRA is a tax-advantaged retirement savings account.
Roth IRA: A type of IRA where contributions are made after taxes and withdrawals are tax-free.
Tax Audit: This is an examination of your tax return by the IRS to ensure accuracy.
Self-Employment Tax: Social Security and Medicare taxes for self-employed individuals.
Taxable Fringe Benefits: Non-cash benefits provided by employers subject to taxation.
Estimated Tax: Quarterly payment made by self-employed individuals and others who expect to owe taxes.
Tax Exempt: Income or organizations that are not subject to income tax.
FICA (Federal Insurance Contributions Act): Taxes withheld for Social Security and Medicare.
State Income Tax: Tax levied by individual states on income earned within the state.
Form 1098: Reports mortgage interest paid and other information related to home ownership.
Depreciation: Allocating the cost of an asset over its useful life for tax purposes.
Tax Loss Harvesting: Selling investments at a loss to offset capital gains.
Tax Treaty: an agreement between two countries to avoid double taxation on the same income.
IRS (Internal Revenue Service): The U.S. government agency responsible for tax collection and enforcement.

Conclusion

This guide on 40 must-know tax terminology helped you understand the complex world of taxes. Remembering these terms will make it easier for you to communicate with tax professionals and help you better manage your finances.

Remember that tax laws vary by country and state, so it’s important to research and consult a tax expert for specific advice. Don’t hesitate to contact them with any questions or concerns. Good luck with your tax preparation!