Understanding Taxes in the U.S.: Principles, Types, & Impacts on Economy

1. Ch 9: TAXES (There are only 2 certainties in life: Death and taxes!)

2. Ch 9 Key Terms • sin tax individual income tax • sales tax benefit principle • ability-to-pay principle proportional tax • progressive tax regressive tax • payroll withholding IRS • tax return FICA • Medicare corporate income tax • excise tax estate tax • gift tax property tax • customs duty intergovernmental revenue • property tax

3. An enormous amount of $ is required to run the federal, State, and local governments of the U.S. • Taxes & other governmental revenues influence the economy by affecting 3 things:

4. Resource allocation • The factors of production are affected whenever a tax is levied (a tax on a good/ service raises the cost of production) • Behavior adjustment • Taxes are often used to encourage or discourage certain types of activities (Ex. home ownership, credit card use & tobacco, alcohol – sin taxes) • Productivity & growth • Taxes can change the incentives to save, invest & work

5. To be effective, taxes must meet 3 criteria: • Equity/fairness • Most people view taxes as being fairer if they have fewer exceptions, deductions & exemptions (problems?) • Simplicity • Tax laws should be written so taxpayer & tax collector understand them • Efficiency • Taxes should be relatively easy to administer & reasonably successful at generating revenue

6. Taxes in the United States are based on 2 principles that have evolved over the years:

7. The Benefit principle • Those who benefit from governmental goods/services should pay in proportion to the amount of benefits they receive • There are 2 limitations: • Many government services provide the greatest benefit to those who can least afford to pay them • Benefits often are hard to measure

9. The Ability-to-Pay principle • People should be taxed according to their ability to pay regardless of the benefits they receive • Based on 2 factors: • Societies cannot always measure the benefits derived from government spending • Assumes people with higher incomes suffer less discomfort paying taxes than people with lower incomes

10. Three general types of taxes exist in the United States today • Each type is classified according to the way in which the tax burden changes as income changes • They are:

11. Proportional tax • Imposes same percentage rate of taxation on everyone, regardless of income • Example: tax rate is 20% • Person with $10,000 in income pays $2000 • Person with $100,000 in income pays $20,000

12. 2) Progressive tax • Imposes a higher percentage rate of taxation on persons with higher incomes • Claims a larger dollar amount & a larger percentage of income as income increases • Example: individual income tax

13. 3) Regressive tax • Imposes a higher percentage rate of taxation on low incomes than on high incomes • Example: Social Security Tax • Tax on income up to $80,400. If you make more than this, you don’t have to pay tax on the amount above $80,400 • If you make $80,400 or less, you would pay about 7.5 cents per dollar in SS tax • If you make $300,000, you would pay about 1.7 cents per dollar in SS tax

14. Federal Taxes • Income tax • Collected through payroll withholding system (automatically deducted) • IRS, the agency in charge of collecting taxes • File a tax return in April (an annual report) • FICA (Fed Insurance Contributions Act) • Tax levied on SS and Medicare, a federal health-care program available for all senior citizens

16. Corporate income tax • Tax paid on corporate profits • Excise tax • Paid when purchases are made on specific goods & activities, such as gasoline, liquor, phone services, tires, legal gambling & coal • Estate tax • Tax on transfer of property when one dies

17. Gift tax • Tax on donations of $ or wealth paid by the giver • Done so the wealthy do not try to avoid taxes by giving away their estates before their deaths • Customs duty • Tax paid on goods imported from other countries

19. State & Local Taxes • Largest source of State revenue comes from intergovernmental revenue in the form of funds collected by the federal govt then distributed to the State • 2nd largest source of State revenue is the sales tax

20. Average Sales Tax Rates

21. Largest source of local revenue comes in the intergovernmental revenue collected by the State; smaller amount from the federal govt • 2nd largest source of local revenue is the property tax – tax on tangible & intangible possessions • Examples: real estate, buildings, furniture, automobiles, farm animals, stocks, bonds & bank accounts