Chapter 4. Taxes Chapter 4. Taxes are very complicated and we will - PDF document

Chapter Focus Chapter Focus � Taxes represent the largest source of revenue Taxes represent the largest source of revenue � for both federal and state governments. Taxes for both federal and state governments. Taxes Chapter 4. Taxes Chapter 4. Taxes are very complicated and we will only cover are very complicated and we will only cover the basics in this chapter. We will focus on the basics in this chapter. We will focus on federal income tax, but will also cover Utah federal income tax, but will also cover Utah state income tax and estate tax to some degree. state income tax and estate tax to some degree. In addition, tax philosophies and different In addition, tax philosophies and different types of tax structure are discussed. Note that types of tax structure are discussed. Note that the textbook has more details than the lecture the textbook has more details than the lecture notes. notes. Major Topics Taxation Philosophies Major Topics Taxation Philosophies � Taxation philosophies Taxation philosophies � Benefits received philosophy Benefits received philosophy � � � Types of taxes Types of taxes � Those who receives the benefits of a particular Those who receives the benefits of a particular � � � Earnings, purchases, property, wealth Earnings, purchases, property, wealth public service should pay for it public service should pay for it � � Federal income tax Federal income tax � Examples Examples � � � Highway toll Highway toll � Utah state income tax Utah state income tax � � � Gasoline tax paying for highways Gasoline tax paying for highways � � Social Security tax Social Security tax � � Death and transfer tax Death and transfer tax � � Tax planning issues Tax planning issues � � Ability to pay philosophy Ability to pay philosophy � Examples: Examples: John ($20,000), Jane ($100,000) John ($20,000), Jane ($100,000) � � � Progressive Progressive � Progressive Progressive � � � The higher the income, the higher of a percentage The higher the income, the higher of a percentage � John pays 15% John pays 15% - -> $3,000 tax > $3,000 tax � � paid paid � Jane pays 28% Jane pays 28% - -> $28,000 tax > $28,000 tax � � Flat Flat � � Flat Flat � � Tax is a fixed percentage of one Tax is a fixed percentage of one’ ’s income, no matter s income, no matter � � John pays 20% John pays 20% - -> $4,000 tax > $4,000 tax � how high of an income one has how high of an income one has � Jane pays 20% Jane pays 20% - -> $20,000 tax > $20,000 tax � � Regressive Regressive � � Regressive Regressive � � The higher the income, the lower of a percentage The higher the income, the lower of a percentage � � John pays 28% John pays 28% - -> $5,600 tax > $5,600 tax � paid paid � Jane pays 15% Jane pays 15% - -> $15,000 tax > $15,000 tax �

Average vs. Marginal Tax Rates Average vs. Marginal Tax Rates � Marginal tax rate is the rate at which your last dollar Marginal tax rate is the rate at which your last dollar � Example: John and Jane: Married filing jointly with a Example: John and Jane: Married filing jointly with a � � is taxed. taxable income of $75,000 is taxed. taxable income of $75,000 � Federal marginal tax rates in from 2003 Federal marginal tax rates in from 2003- -2007 2007 � Tax liability in 2006 Tax liability in 2006 � � � 10%, 15%, 25%, 28%, 33%, 35% 10%, 15%, 25%, 28%, 33%, 35% � (15100*10%)+[(61300 (15100*10%)+[(61300- -15100)*15%]+[(75000 15100)*15%]+[(75000- -61300)*25%] 61300)*25%] � � � Historically these rates change. Historically these rates change. = (15100*10%)+(46200*15%)+(13700*25%) = (15100*10%)+(46200*15%)+(13700*25%) � � 1992: 15%, 28%, 31% 1992: 15%, 28%, 31% = 1510+6930+3425 = 1510+6930+3425 � � 1993 1993- -2000: 15%, 28%, 31%, 36%, 39.6% 2000: 15%, 28%, 31%, 36%, 39.6% � = $11,865 = $11,865 � 2001: 15%, 27.5%, 30.5%, 35.5%. 39.1% 2001: 15%, 27.5%, 30.5%, 35.5%. 39.1% � � Marginal tax rate: Marginal tax rate: � � 2002: 10%, 15%, 27%, 30%, 35%, 38.6% 2002: 10%, 15%, 27%, 30%, 35%, 38.6% � � 25% 25% � � Average tax rate is the overall percentage of total Average tax rate is the overall percentage of total � � Average tax rate: Average tax rate: � taxible income a household pays in tax taxible income a household pays in tax � 11865/75000=15.82% 11865/75000=15.82% � Types of Taxes Federal Income Tax Types of Taxes Federal Income Tax � Taxes on earnings Taxes on earnings � � Take a look at Take a look at Form 1040 Form 1040, the most commonly , the most commonly � � Federal income taxes Federal income taxes � used form used form � State income taxes State income taxes � � Social Security taxes Social Security taxes � � Five types of filing status Five types of filing status � Taxes on purchases Taxes on purchases � � � Sales tax Sales tax � � Single Single � � Taxes on properties Taxes on properties � � Married filing jointly Married filing jointly � Real estate property tax Real estate property tax � � � Automobile property tax Automobile property tax � � Married filing separately Married filing separately � � Taxes on wealth transfer Taxes on wealth transfer � � Estate tax Estate tax � Head of household Head of household � � � Inheritance tax Inheritance tax � � Qualifying widow(er) with dependent child Qualifying widow(er) with dependent child � � Gift tax Gift tax � Figuring Out Taxable Income Figuring Out Taxable Income � Taxable income =Adjusted gross income Taxable income =Adjusted gross income – – � Exemptions - Exemptions - Deductions Deductions � Gross income Gross income � � Exemptions Exemptions ($3,300 for each exemption for 2006) ($3,300 for each exemption for 2006) � � Wages and salaries, alimony, interest, capital Wages and salaries, alimony, interest, capital � � Deductions Deductions (either standard or itemized, whichever is (either standard or itemized, whichever is � gains, dividends, pensions, business income, gains, dividends, pensions, business income, higher) higher) rentals, etc. rentals, etc. � Standard deductions in 2006 Standard deductions in 2006 � � Single or Married filing separately: $5,150; Head of household: Single or Married filing separately: $5,150; Head of household: � � Adjusted income (AGI) = Gross income plus Adjusted income (AGI) = Gross income plus � $7,550; Married jointly or qualifying widow(er): $10,300 $7,550; Married jointly or qualifying widow(er): $10,300 or minus certain adjustments � Typical itemized deductions: Typical itemized deductions: or minus certain adjustments � � Medical expenses in excess of 7.5% of adjusted gross income Medical expenses in excess of 7.5% of adjusted gross income � � Examples of possible exclusions: Examples of possible exclusions: IRA (individual IRA (individual � � State and local income taxes State and local income taxes � retirement savings arrangements) contributions, retirement savings arrangements) contributions, � Personal property taxes Personal property taxes � � Interest on home mortgages (limitations) Interest on home mortgages (limitations) moving expenses, alimony paid moving expenses, alimony paid � � Charitable contributions (limitations) Charitable contributions (limitations) �