The $400,000 Threshold for Adjusted Gross Income (AGI)
Among the many 8(a) business development program eligibility requirements the applicant for 8(a) Certification must have is an average AGI over the past three taxes years of less than $400,000.
What is the definition of Adjusted Gross Income?
Adjusted gross income (AGI) is a tax term for an amount used in the calculation of an individual’s income tax liability. AGI is calculated by taking the applicants gross income and subtracting their maximum allowable adjustments. AGI is located on line Line 11 for 2021 personal taxes (1040), Line 11 for 2020 personal taxes (1040) and Line 8b for 2020 personal taxes (1040).
How do I determine my Adjusted Gross Income for 8(a) Certification Purposes?
Step 1: The easiest way to initially determine if you exceed the $400,000 threshold, averaged over the last three years is to add up the AGI number reported on the first page of your last three years of federal tax returns (1040).
Please note: If your portion of the applicant firm’s business income is negative or shown as a loss, you cannot deduct this loss from your AGI since losses from an S corporation, LLC or partnership are losses to the company only and are not losses to the individual and cannot be used to reduce your AGI.
If you add these three numbers, divide them by three and result is a number larger than $400,000 you must do further analysis. Go to Step 2.
If the number is less than $400,000 and your distributions taken out the company do not exceed the profits reported for your business on its tax return, your AGI is less than $400,000 without doing any further analysis.
If your distributions exceed the profits reported for your business, you must do further analysis. Go to Step 2.
Step 2: If your resulting calculation shows more than $400,000 or your distributions exceed the profits reported for your business on its tax return, and you are filing the taxes jointly with your spouse, you will then need to separate out the portion of any income reported on the tax return between the applicant and their spouse.
For example: (1040). Wages, salaries, tips, etc. = $100,000 (Applicant’s portion, $40,000 – Spouse’s portion, $60,000). Do the same for each income line as specified above.
Once you have separated out all income reported on the tax return between the applicant and their spouse take the total for the last three years and divide them by three. If the resulting calculation is still larger than $400,000 you must do further analysis. Go to Step 3.
If the number is less than $400,000 and your distributions taken out the company do not exceed the profits reported for your business on its tax return, your AGI is less than $400,000 without doing any further analysis.
Step 3: There is one final analysis that can be performed to see if you still exceed the $400,000 AGI threshold. If the applicant business concern is an S corporation, LLC or partnership you may:
(Please note: Single Member LLC’s that file a Schedule C cannot use the below in their calculations, per the SBA):
- Deduct any income associated with the business that was reinvested into the business concern, less any distributions taken.
Example 1: Your applicant business income shown on the tax return is $100,000. You took $0 in distributions. The result is that $100,000 was reinvested or not distributed therefore the entire $100,000 can be deducted from your AGI calculation.
Example 2: Your applicant business income shown on the tax return is $100,000. You took $50,000 in distributions. The result is that $50,000 was reinvested or not distributed therefore the $50,000 can be deducted from your AGI calculation.
- Deduct any income used to pay the LLC or S-Corporation Federal taxes owed on behalf of the income from your LLC or S-Corporation income reported. Please note the SBA does not count or allow any State taxes you may have paid to reduce your AGI. Only Federal taxes paid are allowable to reduce your AGI.
In order to determine what the Federal taxable income tax that you paid on behalf of the business income reported on your tax return you must determine your IRS Income Tax rate.
To determine your IRS Income Tax rate, look at your 1040 form (Taxable Income).
Then, click here to visit a site that will show you your tax bracket percentage. Be sure the indicate the tax year, filing status and then lookup your tax bracket percentage based upon your taxable income.
Example: Your applicant business income shown on the tax return is $100,000. Your determined IRS Income Tax rate is 24% therefore you are responsible for $24,000 that would be paid to the IRS on the income from your business reported and the result would be an additional $24,000 that can be deducted from your AGI calculation.
As you can see from above, determining your AGI can be somewhat complex for 8(a) Certification purposes. Cloveer can help you to determine your AGI should you need further assistance. We offer an AGI Analysis Service for $250.00 where we will perform an analysis for the last three years and provide you a detailed report showing you exactly what your AGI is for each year and averaged over the last three years. If you are interested in this service, please request a service agreement or give us a call at 813-333-5800 for more information.
