Ch2. Individual Income Tax — W-2 Income and Form 1040 Filing Structure

The Structure of Individual Income Tax

The Internal Revenue Code (IRC) governs the federal income tax imposed on individuals.

Eight Categories of Income (IRC § 61)

Income Type	Key Examples
Wages, salaries, tips	W-2 income, bonuses, stock compensation
Interest income	Bank interest, bond interest, CD interest
Dividend income	Qualified and ordinary dividends from stocks and funds
Business income	Self-employment, freelance, Schedule C
Capital gains	Sale of stocks, real estate, and other capital assets
Pension / retirement	IRA distributions, 401(k) distributions, Social Security
Rental income	Rent from real property (Schedule E)
Other income	Gambling winnings, prizes, alimony (pre-2019), cancellation of debt

Ordinary income: Wages, business income, interest, rent — taxed at graduated rates. Capital gains: Long-term gains (assets held 12+ months) taxed at preferential rates (0%, 15%, 20%).

W-2 Wages and Withholding

Characteristics of W-2 Income

Employees cannot deduct actual work-related expenses on Form 1040 (post-TCJA 2017, the miscellaneous itemized deduction was eliminated for employees).
W-2 employees can deduct unreimbursed employee expenses only in a few states.

Gross wages (Box 1 of W-2)
  − Pre-tax benefits (401k, health insurance, FSA — excluded from Box 1)
= Federal taxable wages

Excludable (Pre-Tax) W-2 Benefits

Item	Limit
Employer health insurance	Excluded from income (no dollar cap)
401(k) / 403(b) contributions	$23,000 / year (2024)
Health FSA	$3,200 / year (2024)
Dependent care FSA	$5,000 / year
Commuter benefits	$315 / month transit,$ 315 parking (2024)

Form 1040 Computation Structure

Employees have estimated federal tax withheld each paycheck based on their Form W-4 election. The annual Form 1040 reconciles the actual liability:

Gross Income (all sources)
  − Adjustments to Income (above-the-line deductions)
= Adjusted Gross Income (AGI)
  − Standard Deduction (or Itemized Deductions)
  − QBI Deduction (§ 199A, if applicable)
= Taxable Income
  × Tax Rate (graduated brackets)
= Tentative Tax
  − Nonrefundable Tax Credits
= Tax Before Payments
  − Withholding (Form W-2 Box 2)
  − Estimated Tax Payments
= Amount Due (or Refund)

Deductions vs. Tax Credits

Deduction: Reduces taxable income, so the tax savings depend on your marginal rate.

Example: $1,000 deduction × 22% bracket =$ 220 tax savings
Example: $1,000 deduction × 37% bracket =$ 370 tax savings → Higher earners benefit more from deductions

Tax Credit: Reduces the actual tax owed dollar-for-dollar — worth the same regardless of income level.

Example: $1,000 tax credit =$ 1,000 tax savings regardless of bracket

Trend: Tax reform has increasingly converted deductions to credits to improve equity.

2024 Federal Income Tax Rates (Single Filer)

Taxable Income	Rate
$0 –$ 11,600	10%
$11,601 –$ 47,150	12%
$47,151 –$ 100,525	22%
$100,526 –$ 191,950	24%
$191,951 –$ 243,725	32%
$243,726 –$ 609,350	35%
Over $609,350	37%

Married Filing Jointly brackets are roughly double the single brackets (up to the 32% bracket).

Tax calculation method: Taxable income × applicable rate − bracket offset (marginal rate method)

Example: Taxable income $55,000 (single filer) →$ 11,600 × 10% = $1,160 → ($ 47,150 − $11,600) × 12% =$ 4,266 → ( $55,000 −$ 47,150) × 22% = $1,727 → Total tax =$ 7,153

Key Above-the-Line Deductions (Adjustments to Income)

Personal Exemption / Standard Deduction

The standard deduction (2024):

Single: $14,600
Married Filing Jointly: $29,200
Head of Household: $21,900
Additional $1,550 for each person age 65+ or blind

IRA and Retirement Deductions

Traditional IRA (deductible if income limits met):

Up to $7,000 / year ($ 8,000 if age 50+)
Deductibility phases out if you have a workplace plan: single $77,000–$ 87,000 AGI; MFJ $123,000–$ 143,000 AGI (2024)

Other Above-the-Line Deductions

Deduction	Limit / Details
Student loan interest	Up to $2,500; phases out$ 75K–$90K (single) AGI
Health Savings Account (HSA)	$4,150 single /$ 8,300 family (2024)
Self-employment tax	50% of SE tax deductible
Self-employed health insurance	100% of premiums
Alimony (pre-2019 divorces)	Deductible by payer (taxable to recipient)

Key Tax Credits

Credit	Amount
Child Tax Credit	$2,000 per qualifying child under 17 (partial refund up to$ 1,700)
Earned Income Tax Credit	Up to $7,830 (3+ children) — refundable
Child & Dependent Care Credit	20–35% of up to $3,000 /$ 6,000 of expenses
Education Credits	American Opportunity (up to $2,500) / Lifetime Learning (up to$ 2,000)
Retirement Savings Credit	10–50% of IRA/401k contributions (low/moderate income)
Residential Clean Energy	30% of solar, wind, geothermal installations

Who Must File a Federal Return

The following generally must file Form 1040:

Gross income exceeds the standard deduction: $14,600 (single),$ 29,200 (MFJ) for 2024
Self-employment net earnings of $400 or more
Special taxes are owed: Alternative minimum tax (AMT), household employment taxes, recapture of credits
You received advance premium tax credits (health insurance marketplace)
You had a health savings account and need to report distributions

W-2 withholding reconciliation completes the tax obligation: An employee with only W-2 income from one employer and no other income typically does not need to file if withholding was correct — but filing is always recommended to receive any refund.

Learning Checklist

Name the eight categories of gross income under IRC § 61
Walk through the Form 1040 calculation structure step by step
Explain the difference between a deduction and a tax credit in terms of tax savings
Identify who must file a federal income tax return
Calculate the federal income tax on a given taxable income using the rate schedule

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