What distinguishes "adjusted gross income" from "taxable income"?

The distinction between "adjusted gross income" (AGI) and "taxable income" lies in the way each is calculated and the deductions that apply.

Adjusted gross income is defined as gross income minus specific adjustments allowed by the Internal Revenue Service (IRS), which may include items like retirement plan contributions, student loan interest, and tuition deductions. This figure represents a taxpayer's income that has been adjusted for certain eligible expenses, thereby providing a more accurate measure of income that accounts for certain deductible items.

Taxable income, on the other hand, is derived from AGI by taking further deductions, specifically the standard deduction or any itemized deductions the taxpayer qualifies for. This means that taxable income reflects the amount of income on which tax will actually be calculated, once all eligible deductions have been applied.

The distinction is crucial because it affects the overall tax liability. Understanding how AGI and taxable income interact helps taxpayers identify their potential liabilities, as AGI serves as the basis for calculating the ultimate taxable income. Hence, the correct answer effectively highlights the relationship and sequential process in calculating taxable income from AGI.