After filing out name, address, filing status, and exemptions, the next sections of the tax return deals with income, deductions, tax calculations, tax credits, and payments. Let's get a general overview of these parts of the tax return.
When working on a tax return, I keep three equations in mind:
- Income - Deductions = Taxable income
- Taxable income x various Rates = Tax Liability
- Tax Liability - Payments = Refund or Balance due
Let's see how these equations are displayed on the Form 1040 tax return:
Income. The income section of the tax return is where we report various types of income. This is found on lines 7 through 21 on the 2013 version of Form 1040.
We notice that income is separated out into its different types, and that the total income is added up on line 22.
Deductions. Some deductions are reported on page 1 of Form 1040. These deductions are called adjustments to income. They are also called above-the-line deductions. These are found on lines 23 through 35 of the 2013 version of Form 1040.
We notice there are different types of adjustments to income. Adjustments to income are added up to a total on line 36. Line 37 is a person's adjusted gross income. This amount is total income (line 22) minus total adjustments to income (line 36). Line 36 is also the bottom of the first page of the Form 1040. Notice the bold line separating line 36 from line 37? Adjustments to income are above this line, hence the alternate name "above-the-line" deductions.
More deductions are found on page 2 of Form 1040. The second page begins with line 38, which is adjusted gross income. This is the same amount as line 37. Next we find itemized deductions or the standard deduction (lines 39 and 40), followed by personal exemptions (line 42).
This section of the tax return culminates in the calculation of taxable income on line 43. Working from the top of page 2, taxable income is adjusted gross income (line 38) minus itemized deductions or standard deduction (line 40) and minus personal exemptions (line 42).
So here, we have our first equation: Income minus Deductions equals Taxable income. We can expand this equation a little more fully: Total income - Adjustments to Income - Itemized or Standard Deduction - Personal Exemptions = Taxable income.
Tax. Taxable income is what we use to calculate a person's federal income tax. It's also called the tax base. However, there are different types of taxes that might apply, depending on a person's situation. The tax section of Form 1040 has line items for the federal income tax (line 44), the alternative minimum tax (line 45), and various other taxes (lines 56 through 60). There are also a number of tax credits for which a person might be eligible. Tax credits are found on lines 47 through 53.
The tax section of Form 1040 culminates into a calculation of a person's total tax on line 61. This is a person's total tax liability for the year. This represents the amount of federal tax a person is required to pay (liability) based on their income, deductions and credits.
It's here that we find our second equation: Taxable income multiplied by various Rates equals Tax Liability. We notice that really there are different taxes, each with its own tax base and each with its own schedule of tax rates. Tax credits can offset the federal income tax and alternative minimum tax. There are also various surtaxes or "Other Taxes" as they are labeled on the Form 1040. We add up all these taxes and subtract out the tax credits to arrive at the total tax liability.
Payments. In payments section of the tax return we report various tax payments a person has made. We report withholding (line 62), estimated tax payments (line 63), and extension payments (line 68). We also report various refundable tax credits, such as the earned income credit (line 64), the additional child tax credit (line 65), the refundable portion of the American Opportunity credit (line 66), and any overpaid Social Security withholding (line 69).
Payments and refundable credits are totaled on line 72. From here, we can calculate whether a person has a refund (an overpayment of tax) or a balance due (an underpayment of tax). All we have to do is take the total tax liability (line 61) and subtract total payments (line 72). This is our third equation: Tax Liability - Payments = Refund or Balance due.
If the answer to our calculation is a negative number, the person has a refund, and the refund amount goes on line 73. If the answer to our calculation is a positive number, the person has a balance due, and this goes on line 76. The deadline for paying any balance due of 2013 tax is April 15, 2014.