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Why is there $0 of taxable ordinary income when there is ordinary income included in the scenario?

Wondering why the Tax Report shows $0 of taxable ordinary income even though there is income in the scenario? It may have to do with deductions.

Let’s look at an example!

Robert and Roxanne are in a lower-income tax year. They are retired and have no wage income, and haven’t started receiving Social Security benefits yet. They decided to convert some of their IRA to Roth, and will sell some appreciated stock for long-term capital gains.

Their income includes:

  • $1,200 Taxable Interest
  • $3,555 Total Dividends ($3,200 of which are qualified)
  • $45,000 Taxable Roth Conversion
  • $97,000 Long-Term Capital Gains

 

This results in total income of $146,755 and, after the standard deduction and enhanced senior deduction are applied, taxable income of $100,055. We can see these values in the Key Figures section found at the top of the Tax Report.

Key Figures

When we view the Tax Report for the scenario, we see in the Marginal Tax Brackets: Ordinary Income section that there is $0 of taxable ordinary income. How can this be? There is ordinary income in the scenario in the form of a Roth conversion, taxable interest, and ordinary dividends.

marginal bracket-1

The reason for $0 of taxable ordinary income is a result of how deductions are applied. Deductions, like the standard deduction, Enhanced Senior Deduction, and QBI Deduction (to name a few), reduce ordinary income first.

In the scenario, ordinary income totals $46,555. This includes: 

  • $1,200 taxable interest
  • $355 ordinary dividends ($3,555 total dividends - $3,200 qualified dividends)
  • $45,000 taxable Roth conversion

Total deductions are $46,700:

  • $34,700 standard deduction
  • $12,000 enhanced senior deduction

Since total deductions are greater than total ordinary income, there will be $0 of taxable ordinary income!

The detailed calculation is illustrated below.

Remember, deductions reduce ordinary income first.

  • $46,555 (ordinary income) - $46,700 (deductions) = -$145

Since deductions were greater than ordinary income, we've reduced ordinary income to $0. There is an excess deduction of $145, which now reduces qualified income.

  • $97,000 (long-term capital gains) + $3,200 (qualified dividends) - $145 (remaining deductions) = $100,055 taxable qualified income

You can verify this on the Tax Report by reviewing the following charts:

marginal bracket-1

qualified income