Once you know your AGI, the next step is determining your itemized deductions. Itemized deductions are IRS allowed reductions in adjusted gross income that are used to calculate taxable income. There are two different ways to determine deductions; one way you must calculate yourself and the other way is calculated for you. It is important for you to understand what can and cannot be deducted because every deduction results in less tax you must pay and more money that you can keep and use to achieve your personal goals.

The first method of calculating deductions is to let the government calculate them for you. Each year, the government determines a “standard deduction,” which is an estimate of what the average family would be able to deduct by itemizing. Unlike itemized deductions that are limited for higher levels of AGI, the standard deduction remains the same for all income levels. The standard deduction amount does vary depending on your filing status: the amount will be different depending on whether you are single, married filing jointly, head of household, or married filing separately. The following has been the standard deduction for married filing jointly for the last few years:

Year               Standard Deduction (MFJ)

2006                            $10,300

2007                            $10,700

2008                            $10,900

2009                            $11,400

2010                            $11,400

The second method for determining deductions is for the taxpayer to itemize all the deductions he or she can legally take. The government allows taxpayers to remove certain expenses that it deems important from a taxpayer’s income. It is the taxpayer's responsibility to determine and document those deductions. Some of the most common deductions include medical and dental expenses, tax expenses, interest on home mortgages, charitable contributions, investment-related expenses, and miscellaneous expenses.

The government allows deductions for medical and dental expenses, but only the amount that exceeds 7.5 percent of your AGI, un-reimbursed qualified job expenses that exceed 2 percent of AGI, and casualty and theft losses that exceed 10 percent of AGI. For example, if your AGI is $50,000, you can only deduct medical expenses that are more than $3,750 (50,000 * .075). The definition of acceptable medical and dental expenses can be found in IRS Publication 17.

Certain tax expenses are also deductible. These expenses include investment losses up to $3,000 per year, state and local income taxes, real estate taxes, and county or city income taxes. Some states impose a personal property tax (generally a tax on vehicles), which is also deductible. The government also allows you to deduct the interest you pay on your home mortgage as well as interest on home equity loans up to a $100,000 loan limit.

You may also deduct contributions to charitable organizations. The requirement for this deduction is that the charitable organization must be qualified (registered as a 501(c)(3) nonprofit organization). Regardless of the size of the donation, you should get a receipt for your donation from the charity.

Further deductions can be taken for certain expenses relating to investing. The government wants to encourage investment so interest paid on investments is deductible, although it is limited to the amount of investment income that you earn. You can also deduct investment costs; this deduction can offset investment income and can deduct up to $3,000 in investment expenses per year. Losses in excess of $3,000 can be carried forward to deduct in future years.

Certain mileage deductions may also be made, depending on the usage of your personal vehicle.  These uses may be related to charity, business, moving, or medical expenses.

Charitable Mileage deductions:                          2007                .19 per mile

                                                                        2008               .19 per mile

                                                                        2009                .14 per mile

                                                                        2010                .14 per mile

Business Mileage Deductions                            2007                 .485 per mile

                                                                        2008                .505 per mile

                                                                        2009                .550 per mile

                                                                        2010                .500 per mile

Moving/Medical Mileage Deductions                2007                .200 per mile

                                                                        2008                .190 per mile

                                                                        2009                .240 per mile

                                                                        2010                .165 per mile

If your income rises above a certain level, you begin losing a percentage of your deductions. The higher your income gets, the more your allowable itemized deductions are reduced. While these calculations are complicated, be aware that these adjustments may be applicable.

The challenge to the taxpayer is to determine whether his or her calculated deductions are greater than the government's standard deduction. It may be to your advantage to itemize your deductions. If the government's standard deduction is greater, it is to your advantage to take the standard deduction. Once you understand the tax system, you can utilize the deductions that minimize your tax payments and maximize the amount that is left over for your personal goals.