The personal exemption is like a free gift from the IRS. But if the whole point of income taxes is to collect revenue, then why does the government automatically exempt such a healthy chunk of change — $3,950 in 2014 — from your taxable income?
Congress writes the tax code and legislators recognize that the lowest-income Americans are hardest hit by income taxes. Not that they pay the most — no, that would be the megarich — but the loss of a few thousand dollars could be the difference between subsistence and homelessness.
The personal exemption, as well as the spousal and dependent exemptions, are designed to exempt a certain baseline level of income from taxation. When the very first income tax was collected in 1913, the personal exemption was set at $3,000 (more than $72,000 in 2014 dollars), meaning relatively few people made enough to owe income tax [source: Tax Policy Center]. Today's exemption is not nearly as generous, but serves the same purpose.
Since the exemption is designed to benefit lower income earners, the IRS has instituted a phase-out for higher income earners. If you are a single filer and your adjusted gross income (AGI) is higher than $254,200, the amount of your personal exemption is reduced by 2 percent for every $2,500 that your income exceeds that limit. Once the AGI reaches $376,700, the personal exemption is reduced to zero [source: IRS]. (The AGI is the amount left after subtracting certain expenses, like student loan interest or alimony from your gross income).