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Understanding Taxes
Taxes for Beginners: Top Must-Know Terms
Navigating the complexities of the U.S. tax system can be a daunting task. However, there is no need to approach your taxes with fear. By equipping yourself with some basic knowledge, you'll have the tools to better understand and manage your tax obligations once tax season rolls around.
To help you get started, here are 10 important tax terms to know:
- Filing Status - Filing status is a categorization that the IRS uses to determine a variety of tax-related factors. These include your filing requirements, standard deduction, qualification for certain tax credits, and your total tax. Your filing status is determined with certain information like your marital status and number of dependents.
- Dependent - A dependent is either a qualifying child or a qualifying relative of a taxpayer. The IRS has tests to determine whether a child or relative qualifies as a dependent, and the determination is made based on factors like relationship, age, and financial support provided.
- Deductions (Standard Deduction and Itemized Deductions) - Deductions reduce the amount of your income that will be subject to tax. This means that deductions can help lower the amount of tax that you’ll pay. There are two types of deductions—the standard deduction and itemized deductions.
- Credits - Tax credits are subtracted from your total taxes due. This means that tax credits can reduce your tax liability dollar-for-dollar, giving you a bigger bang for your buck relative to deductions. Tax credits can be claimed for things like child and dependent care, qualifying education expenses, and qualifying clean energy expenses.
- Adjusted Gross Income (AGI) - Adjusted gross income, or AGI, is a tax term that refers to the total amount of income a person earns during the year after some adjustments. This includes all sources of income, such as salary, wages and tips, interest and dividends.
- Taxable Income - Your taxable income is the amount on which your total tax is calculated. Taxable income is calculated by subtracting either the standard deduction or itemized deductions from your AGI.
- Total Tax - Your total tax, or your tax liability, is the amount of tax that you owe the IRS in a given year based on your income and other financial information.
- Tax Bracket - A tax bracket refers to a range of income subject to a certain tax rate. Tax brackets are updated annually for inflation and vary based on your filing status.
- Withholding - Income tax withholding refers to the taxes withheld by an employer or another entity (e.g., a financial institution or brokerage firm) at the time the income is earned.
- Progressive Tax System - There are different types of tax systems - including a flat tax, a progressive tax, and a regressive tax.
There you have it! Hopefully, armed with this glossary of tax terms, you can approach tax season this year with confidence.
For more information on taxes for beginners, read here.
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