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Taxation Attorneys - Income Tax Lawyers

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An overview on taxation, individual income tax, corporate income tax, payroll tax, and consumption taxes.

PROPERTY TAX

Taxes are sometimes classified as either specific or ad valorem. Specific taxes are of a fixed amount based on a number, or standard of weight or measurement. Ad valorem taxes are based on a fixed proportion of the value of the property with respect to which the tax is assessed. They require an appraisal of the taxable subject matter's worth. General property taxes are almost invariably of this second type -- ad valorem. Ad valorem property taxes are based on ownership of the property, and are payable regardless of whether the property is used or not and whether it generates income for the owner (although these factors may affect the assessed value).

Income tax meets the broadest definition of a property tax. The term, however, is often limited to taxes based on real property. See Real Property.

The most frequent use of property taxes in the U.S. is by municipal governments, authorized to generate necessary revenue in this fashion under state law.

Learn more about Taxation...

Taxation, system of raising money to finance government. All governments require payments of money-taxes-from people. Governments use tax revenues to pay soldiers and police, to build dams and roads, to operate schools and hospitals, to provide food to the poor and medical care to the elderly, and for hundreds of other purposes. Without taxes to fund its activities, government could not exist.

Throughout history, people have debated the amount and kinds of taxes that a government should impose, as well as how it should distribute the burden of those taxes across society. Unpopular taxes have caused public protests, riots, and even revolutions. In political campaigns, candidates' views on taxation may partly determine their popularity with voters.

Taxation is the most important source of revenues for modern governments, typically accounting for 90 percent or more of their income.

The remainder of government revenue comes from borrowing and from charging fees for services. Countries differ considerably in the amount of taxes they collect. In the United States, about 28 percent of the gross domestic product, a measure of economic output, goes for tax payments. In Canada about 36 percent of the country's gross domestic product goes for taxes. In France the figure is 44 percent, and in Sweden it is 51 percent.

In addition to using taxation to raise money, governments may raise or lower taxes to achieve social and economic objectives, or to achieve political popularity with certain groups. Taxation can redistribute a society's wealth by imposing a heavier tax burden on one group in order to fund services for another. Also, some economists consider taxation an important tool for maintaining the stability of a country's economy.

TYPES OF TAXES

Governments impose many types of taxes. In most developed countries, individuals pay income taxes when they earn money, consumption taxes when they spend it, property taxes when they own a home or land, and in some cases estate taxes when they die. In the United States, federal, state, and local governments all collect taxes.

Taxes on people's incomes play critical roles in the revenue systems of all developed countries. In the United States, personal income taxation is the single largest source of revenue for the federal government. In 1997 it accounted for about 44 percent of all federal revenues. Payroll taxes, which are used to finance social insurance programs such as social security and Medicare, account for more than a third of federal revenues. The United States also taxes the incomes of corporations. In 1997, corporate income taxation accounted for 12 percent of federal revenues.

State and local governments depend on sales taxes and property taxes as their main sources of funding. Most U.S. states also tax the incomes of individuals and corporations, although less heavily than the federal government. All Canadian provinces collect income taxes from individuals and corporations.

Individual Income Tax

An individual income tax, also called a personal income tax, is a tax on a person's income. Income includes wages, salaries, and other earnings from one's occupation; interest earned by savings accounts and certain types of bonds; rents (earnings from rented properties); royalties earned on sales of patented or copyrighted items, such as inventions and books; and dividends from stock. Income also includes capital gains, which are profits from the sale of stock, real estate, or other investments whose value has increased over time.

The national governments of the United States, Canada, and many other countries require citizens to file an individual income tax return each year. Each taxpayer must compute his or her tax liability-the amount of money he or she owes the government. This computation involves four major steps. (1) The taxpayer computes adjusted gross income-one's income from all taxable sources minus certain expenses incurred in earning that income. (2) The taxpayer converts adjusted gross income to taxable income-the amount of income subject to tax-by subtracting various amounts called exemptions and deductions. Some deductions exist to enhance the fairness of the tax system. For example, the U.S. government permits a deduction for extraordinarily high medical expenses. Other deductions are allowed to encourage certain kinds of behavior. For example, some governments permit deductions of charitable contributions as an incentive for individuals to give money to worthy causes. (3) The taxpayer calculates the amount of tax due by consulting a tax table, which shows the exact amount of tax due for most levels of taxable income. People with very high incomes consult a rate schedule, a list of tax rates for different ranges of taxable income, to compute the amount of tax due. (4) The taxpayer subtracts taxes paid during the year and any allowable tax credits to arrive at final tax liability.

After computing the amount of tax due, the taxpayer must send this information to the government and enclose the amount due. In 1995 the average four-person family in the United States paid about 9.2 percent of its income in income taxes. Many taxpayers, rather than owing money, receive a refund from the government after filing a tax return, typically because they had too much tax withheld from their wages and salaries during the year. Low-income workers in the United States may also receive a refund because of the earned income tax credit, a federal-government subsidy for the working poor.

Income taxation enjoys widespread support because income is considered a good indicator of an individual's ability to pay. However, income taxes are hard to administer because measuring income is often difficult. For example, some people receive part of their income "in-kind"-in the form of goods and services rather than in cash. Farmers provide field hands with food, and corporations may give employees access to company cars and free parking spaces. If governments tax cash income but not in-kind compensation, then people can avoid taxation by taking a higher proportion of their income as in-kind compensation.

The Internal Revenue Service (IRS), an agency of the Department of the Treasury, administers the federal income tax in the United States. Canada Customs and Revenue Agency, which operates under the Minister of National Revenue, administers the tax in Canada. See Income Tax.

Corporate Income Tax

All corporations in the United States and Canada must pay tax on their net income (profits) to the federal government and also to most state or provincial governments. U.S. corporate tax rates generally increase with income. For example, in 1997 corporations with profits of up to $50,000 paid 15 percent in taxes, whereas corporations with profits greater than about $18.3 million were taxed at a flat rate of 35 percent. In Canada the basic rate for corporations was 38 percent in 1996. In 1994 corporate income taxes accounted for about 9 percent of all tax revenues in the United States and about 6.5 percent of all tax revenues in Canada.

The corporate income tax is one of the most controversial types of taxes. Although the law treats corporations as if they have an independent ability to pay a tax, many economists note that only real people-such as the shareholders who own corporations-can bear a tax burden. In addition, the corporate income tax leads to double taxation of corporate income. Income is taxed once when it is earned by the corporation, and a second time when it is paid out to shareholders in the form of dividends. Thus, corporate income faces a higher tax burden than income earned by individuals or by other types of businesses.

Some economists have proposed abolishing the corporate income tax and instead taxing the owners of corporations (shareholders) through the personal income tax. Other students of the tax system see the corporate income tax as the price corporations pay in return for special privileges from society. The most important of these privileges is limited liability for shareholders. This means that creditors cannot claim the personal assets of shareholders, because the liability of shareholders for the corporation's debts is limited to the amount they have invested in the corporation.

Payroll Tax

Whereas an income tax is levied on all sources of income, a payroll tax applies only to wages and salaries. Employers automatically withhold payroll taxes from employees' wages and forward them to the government. Payroll taxes are the main sources of funding for various social insurance programs, such as those that provide benefits to the poor, elderly, unemployed, and disabled. In 1994 payroll taxes accounted for about 26 percent of all tax revenues in the United States; in Canada, the figure was 17 percent. For most people, payroll taxes are the second-largest tax they must pay each year, after individual income taxes.

The U.S. federal government levies the social security payroll tax at a flat 12.4 percent rate on employees' annual gross wages up to a certain limit. The limit, which was $68,400 in 1998, rises each year at the same rate as the growth in average wages. The government imposes no payroll tax on earnings above the limit. Employers pay half the tax and employees pay the other half. The Medicare payroll tax is 2.9 percent of all earnings, with no cap. Again, employers and employees split the cost of the tax. Self-employed individuals must pay the entire payroll tax.

Although the legislators who set up payroll taxes intended to divide the tax burden equally between employers and employees, this may not occur in practice. Some economists believe that the tax causes employers to offer lower pretax wages to employees than they would otherwise, in effect shifting the tax burden entirely to employees.

Consumption Taxes

A consumption tax is a tax levied on sales of goods or services. The most important kinds of consumption taxes are general sales taxes, excise taxes, value-added taxes, and tariffs.

In the United States, consumption taxes account for only 17 percent of all tax revenues. This is considerably lower than in most other countries. In Canada, the figure is 27 percent, and in the United Kingdom it is 35 percent. General sales taxes and excise taxes are the largest sources of revenue for state and local governments in the United States, accounting for about 35 percent of their total tax revenues.

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