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Start Talking the Talk: Top 10 Tax Terms

1. AGI Adjusted gross income, otherwise known as AGI, is all income you receive during the tax year. This includes wages, interest, dividends and capital gains, minus items such as contributions to a qualified IRA, some business expenses, moving costs, and alimony payments. The adjusted gross income is the first step in calculating your final federal income tax bill.
2. Credits Tax credits are more valuable than deductions because they directly cut the amount of tax you owe, rather than reducing the amount of taxed income. After you calculate your tax bill, you can use tax credits to reduce the amount of money Uncle Sam wants from you. A $200 credit, for example, will reduce a $1,000 tax bill to $800. A few credits could even net you a refund you weren't expecting.
3. Deductions Deductions are expenses that the Internal Revenue Service allows you to subtract from your AGI to determine your taxable income. In most cases, the lower your income, the lower your tax bill. If, for example, a single filer has income of $38,000 and $8,000 in deductions, then he would pay taxes only on $30,000. Taxpayers have a choice of claiming an IRS-determined standard deduction or they can claim itemized deductions listed on schedule A, whichever amount is greater.
4. Standard Deduction This is a fixed dollar amount that a taxpayer can subtract from his or her income. The standard deduction is available to all filers and is determined by the taxpayer's filing status. The amounts change each year because of inflation adjustments; you can find the current year's deduction levels listed on each of the three individual tax forms. This deduction method is used by many taxpayers, and allows those who don't have many itemized deductions to significantly lower the income they will be taxed on.
5. Itemized Deductions These are expenses that can be deducted from your AGI to help you reach a smaller income amount upon which you must calculate your tax bill. Itemized deductions include medical expenses, other taxes (state, local and property tax), mortgage interest, charitable contributions, casualty and theft losses, unreimbursed employee expenses, and miscellaneous deductions, such as gambling losses. Some itemized deductions must meet IRS limits before they can be claimed. When you itemize, you must file Form 1040 and list your deductions on Schedule A.
6. Exemption This is an amount that the IRS lets you subtract from your income to reflect all the people who count on your income. Exemptions can be claimed for yourself, your spouse and your dependents. The IRS allows a set amount for each exemption and, as with deductions this total is subtracted from your adjusted gross income to determine your taxable income. The tax you owe is calculated from this amount. Your personal exemption amount is in addition to any deductions, either standard or itemized, that you claim.
7. Progressive Taxation The U.S. tax system uses progressive taxation, in which higher tax rates are applied as income levels increase. Tax brackets start at 10 percent and rise to 35 percent for the wealthiest taxpayers. For example, the first $7,825 earned in 2007 is taxed at 10%, and then income exceeding that amount up to 31,850 is taxed at 15%, and so on.
8. Taxable Income Your gross income reduced by all allowable adjustments, deductions and exemptions is your taxable income. It is the final amount of income you use to figure just how much tax you owe.
9. Voluntary Compliance The philosophy upon which the U.S. tax system is based: U.S. taxpayers voluntarily comply with tax laws and report their income and other tax items honestly.
10. Withholding Also known as pay-as-you-earn taxation, taxes are taken out of your wages or other income as you earn it, before you receive your paycheck. The withheld taxes are deposited in an IRS account and you are credited for the amount when you file your return. Taxes may also be withheld from other income, such as dividends and interest.

For a complete list of tax terms, check the section on understanding taxes on the IRS web site.