Chapter 7Chapter 7

Federal Income TaxFederal Income Tax

Lesson 7.1 Our Tax SystemLesson 7.1 Our Tax System

I.I. Types of TaxesTypes of TaxesA.A. Revenue—money collected by the Revenue—money collected by the government from citizens and businesses government from citizens and businesses the form of taxesthe form of taxes

1.1. Income taxes is the largest source Income taxes is the largest source of of government revenuegovernment revenue

2.2. Other taxes—social security, Other taxes—social security, unemployment, insurance, unemployment, insurance,

inheritance inheritance and estate, excise, and estate, excise, import duties, import duties, personal propertypersonal property

B.B. Progressive taxes—Progressive taxes—taxes that taxes that take a larger share of income take a larger share of income

as as the amount of income growsthe amount of income grows1.1. Federal income taxesFederal income taxes

2.2. Tax RatesTax Rates (single) (single)Tax RateTax Rate Taxable IncomeTaxable Income

10%10% >0>0

15%15% >$9,075>$9,075

25%25% >$36,900>$36,900

28%28% >$89,350>$89,350

33%33% >$186,350>$186,350

35%35% >$405,100>$405,100

39.6%39.6% >406,750>406,750

C.C. Regressive Taxes—Regressive Taxes—taxes that take taxes that take a a smaller share of income as the smaller share of income as the amount of income growsamount of income grows

1.1. Consumption taxes are Consumption taxes are regressive—Sales taxregressive—Sales tax

2.2. Excise tax—sales taxes Excise tax—sales taxes imposed on specific goods imposed on specific goods

and and services services (gasoline, cigarettes, (gasoline, cigarettes, alcohol, air travel, alcohol, air travel,

TELEPHONE TELEPHONE SERVICE)SERVICE)

D.D. Proportional taxes—(flat taxes) taxes Proportional taxes—(flat taxes) taxes for for which the rate stays the same, which the rate stays the same, regardless of income—property taxesregardless of income—property taxes

E.E. Taxes provide servicesTaxes provide services

1. 1. Local level--taxes provide Local level--taxes provide education, parks and playgrounds, education, parks and playgrounds, roads, police, fireroads, police, fire

2.2. National level—salaries for Congress, National level—salaries for Congress, funds for National Defense, highways, funds for National Defense, highways, welfare, foreign aid, wildlife refugeswelfare, foreign aid, wildlife refuges

II.II.Components of the Tax SystemComponents of the Tax System

A.A. The IRS—Internal Revenue ServiceThe IRS—Internal Revenue Service

1.1. Agency of the Department of Agency of the Department of the Treasurythe Treasury

2.2. Main function is to collect Main function is to collect income taxes and enforce tax income taxes and enforce tax lawslaws

3. 3. Also provides services to taxpayersAlso provides services to taxpayers

a.a. Assist taxpayers in finding Assist taxpayers in finding information and formsinformation and forms

b.b. Furnishes tax information and Furnishes tax information and instruction booklets free to instruction booklets free to

schoolsschools

c.c. Maintains a web site Maintains a web site www.irs.gov, where you can get tax , where you can get tax info, download tax forms, file info, download tax forms, file taxes electronicallytaxes electronically

d.d. Also get tax forms from the public Also get tax forms from the public librarylibrary

B.B. The Power to TaxThe Power to Tax

1.1. The power to levy taxes rests with The power to levy taxes rests with CongressCongress

2.2. Revenue bills must pass a vote in Revenue bills must pass a vote in both the House and the Senate both the House and the Senate

and and then be signed by the president then be signed by the president before they become lawbefore they become law

C.C. Paying Your Fair SharePaying Your Fair Share1.1. Our income tax is graduated—tax Our income tax is graduated—tax

rates increase as rates increase as taxable income taxable income increasesincreases

2.2. Tax rates apply to income ranges, Tax rates apply to income ranges, or or tax bracketstax brackets3.3. Congress increases the tax rates Congress increases the tax rates

when needed to bring in more $ to when needed to bring in more $ to balance the budgetbalance the budget

4.4. Deficit—when government spends Deficit—when government spends more than it receives in revenuemore than it receives in revenue

5.5. Voluntary compliance—all citizens are Voluntary compliance—all citizens are expected to prepare and file income tax expected to prepare and file income tax returns by April 15 of each yearreturns by April 15 of each year

6.6. Responsibility to file and pay taxes Responsibility to file and pay taxes rests with each rests with each individualindividual

7.7. Failure to do so can result in a penalty: Failure to do so can result in a penalty: interest charges on tax owed plus a fine interest charges on tax owed plus a fine and/or imprisonmentand/or imprisonment

8.8. Tax evasion—willful failure to pay Tax evasion—willful failure to pay taxes, taxes, punishable by a fine, punishable by a fine, imprisonment, or imprisonment, or bothboth

C.C. An IRS AuditAn IRS Audit1.1. Audit—examination of tax returnAudit—examination of tax return

2.2. Taxpayers may represent Taxpayers may represent themselves, give some themselves, give some the power to the power to take their place (lawyer, CPA, take their place (lawyer, CPA, family family member, or licensed tax member, or licensed tax agent) or agent) or can can bring anyone for bring anyone for support.support.

3. 3. Audits usually involve confirming Audits usually involve confirming supporting documentationsupporting documentation

4.4. Correspondence audit—much Correspondence audit—much more more common, IRS sends a letter common, IRS sends a letter asking asking taxpayer to answer ?s or taxpayer to answer ?s or produce produce evidence of deductionsevidence of deductions

5.5. May also have office audit or field May also have office audit or field audit (agent visits the taxpayer)audit (agent visits the taxpayer)

Lesson 7.2 Filing Tax ReturnsLesson 7.2 Filing Tax Returns

I.I. Definitions of TermsDefinitions of Terms

A.A. Filing StatusFiling Status

1.1. Single—not marriedSingle—not married

2.2. Married filing a joint returnMarried filing a joint return

3.3. Married filing a separate returnMarried filing a separate return

4.4. Head of Household—meet certain Head of Household—meet certain conditions and provide a home for conditions and provide a home for dependentsdependents

5.5. Qualifying widow(er) with a Qualifying widow(er) with a dependent childdependent child

B.B. Exemption—an amount you may Exemption—an amount you may subtract from your income per subtract from your income per

dependentdependent

1.1. Dependent—person who lives with Dependent—person who lives with you and you and receives more than half receives more than half his/her living expenses from youhis/her living expenses from you

2.2. Dependents may include children, Dependents may include children, spouse, elderly parents, disabled spouse, elderly parents, disabled relativesrelatives

C.C. Gross Income—all the Gross Income—all the taxable income you taxable income you receive, receive, including wages, including wages, tips, tips, salaries, interest, salaries, interest, dividends, unemployment dividends, unemployment compensation, alimony, compensation, alimony, workers’ compworkers’ comp

1.1. Not taxable—child support, gifts, Not taxable—child support, gifts, inheritances, life insurance inheritances, life insurance

benefits, benefits, veterans’ benefitsveterans’ benefits

2.2. Other taxable income—gambling Other taxable income—gambling winnings, bartering, pensions, winnings, bartering, pensions,

annuities, social security benefits, annuities, social security benefits, self-employment income, rental self-employment income, rental income, royalties, estate and trust income, royalties, estate and trust income, income on sale of propertyincome, income on sale of property

3.3. Wages Salaries, and Tips—W-2 Wages Salaries, and Tips—W-2 includes all employment incomeincludes all employment income

4.4. Interest Income—taxable interest from Interest Income—taxable interest from banks, savings and loan associations, banks, savings and loan associations, credit unions, series HH savings bondscredit unions, series HH savings bonds

—— should receive a Form 1099-INT for should receive a Form 1099-INT for each each investment earning interestinvestment earning interest

5.5. Dividend Income—money, stock, or Dividend Income—money, stock, or other other property that corporations pay to property that corporations pay to

stockholders in return for their stockholders in return for their investments—will receive a Form 1099-investments—will receive a Form 1099-DIV for each stock investment.DIV for each stock investment.

6.6. Unemployment Compensation—Form Unemployment Compensation—Form 1099-G shows the total received1099-G shows the total received

7.7. Social Security Benefits—85% is Social Security Benefits—85% is taxable if total income > $25,000 taxable if total income > $25,000

single or $32,000 married filing single or $32,000 married filing jointly. Form SSA-1099 jointly. Form SSA-1099 8.8. Child support—money paid for Child support—money paid for support of dependent children, not support of dependent children, not taxable for person receiving it nor taxable for person receiving it nor deductible for person paying itdeductible for person paying it9.9. Alimony—money paid to support a Alimony—money paid to support a

former spouse. Taxable for the former spouse. Taxable for the person receiving it and deductible person receiving it and deductible for the person paying it.for the person paying it.

D.D. Adjusted Gross IncomeAdjusted Gross Income

1.1. “Adjust” your income by “Adjust” your income by subtracting subtracting certain things (IRA, certain things (IRA, student loan student loan interest, tuition, educator interest, tuition, educator expenses)expenses)

2.2. Adjustments reduce your income Adjustments reduce your income subject to taxsubject to tax

E.E.Taxable IncomeTaxable Income1.1. Deductions—expense the law allows Deductions—expense the law allows you you to subtract from your adjusted gross to subtract from your adjusted gross income to determine your taxable incomeincome to determine your taxable income2. 2. Itemize—list the allowable expenses on Itemize—list the allowable expenses on

your tax return using Schedule A and your tax return using Schedule A and Form 1040 (Medical, dental; state, local, Form 1040 (Medical, dental; state, local, property taxes; mortgage interest; gifts property taxes; mortgage interest; gifts

to to charity; moving expenses; work charity; moving expenses; work expenses)expenses)3.3. Standard deduction—stated amount Standard deduction—stated amount that that you may deduct from AGI instead of you may deduct from AGI instead of itemizing; based on filing statusitemizing; based on filing status

4.4. Your choice to itemize or take standard Your choice to itemize or take standard deduction (take the higher)deduction (take the higher)

5.5. Taxable income—income on which you Taxable income—income on which you pay taxpay tax

6.6. Gross Income—Adjustments=Adjusted Gross Income—Adjustments=Adjusted Gross Income (AGI)Gross Income (AGI)

AGI—Deduction (Std or Item)—AGI—Deduction (Std or Item)—Exemptions=Taxable IncomeExemptions=Taxable Income

Look up taxable income in tax tableLook up taxable income in tax table

Tax—Credits—Withholding=Tax owed Tax—Credits—Withholding=Tax owed or or Refund dueRefund due

F.F. Tax Credits—an amount Tax Credits—an amount subtracted subtracted directly from the tax directly from the tax owedowed

1.1. Every dollar off a credit comes off Every dollar off a credit comes off the tax owedthe tax owed

2.2. College tuition, childcare, children, College tuition, childcare, children, earned incomeearned income

II.II. Preparing to FilePreparing to File

A.A. Who Must File?Who Must File?

1.1. Single, under age 65, earning Single, under age 65, earning >$10,150>$10,150

2.2. If <$10,150, file to claim If <$10,150, file to claim refund refund of taxes withheldof taxes withheld

B.B. When to FileWhen to File

April 15April 15

C.C. Which Form to Use?Which Form to Use?

1.1. Three basic forms—1040EZ, Three basic forms—1040EZ, 1040A--1040A-- (short forms) (short forms)

2.2. 1040—(long form), itemize, 1040—(long form), itemize, >$100,000 taxable income>$100,000 taxable income

D.D. Where to Begin?Where to Begin?

1.1. Save all receipts and proofs of Save all receipts and proofs of payment for itemized deductionspayment for itemized deductions

2.2. Compare paycheck stubs to W-2 Compare paycheck stubs to W-2 (receive by Jan 31)(receive by Jan 31)

3.3. Use last year’s return as a guideUse last year’s return as a guide

4.4. File ASAP to get refund ASAPFile ASAP to get refund ASAP

5.5. Check amount of itemized Check amount of itemized deductions (over $6,200, single)deductions (over $6,200, single)

6.6. Sign form to verify accuracySign form to verify accuracy

7.7. Amended return (1040X) to Amended return (1040X) to make correctionsmake corrections

8.8. Save copies of tax returns, Save copies of tax returns, receipts, Forms W-2, Forms receipts, Forms W-2, Forms 1099, 1099, for six yearsfor six years

E.E. Filing ElectronicallyFiling Electronically

www.irs.gov/efilewww.irs.gov/efile Free if your AGI < $60,000Free if your AGI < $60,000

III.III. Preparing Your Income Tax Preparing Your Income Tax ReturnReturn

A.A. Complete in ink or typed with Complete in ink or typed with no no errors or omissionserrors or omissions

B. B. Tax Preparation Software Tax Preparation Software (TurboTax)(TurboTax)

C.C. Form 1040EZForm 1040EZ1.1. Single or Married and claim no dependents, Single or Married and claim no dependents,

taxable income <$100,000taxable income <$100,000a.a. Name, address, social security numberName, address, social security numberb.b. Report income, indicate if you are a Report income, indicate if you are a dependent on someone else’s tax returndependent on someone else’s tax returnc.c. Compute tax—use tax table, subtract Compute tax—use tax table, subtract amount amount withheldwithheldd.d. Refund or Amount Owed, can have Refund or Amount Owed, can have refund refund deposited electronically into bank deposited electronically into bank

account—takes only 2—3 weeksaccount—takes only 2—3 weekse.e. Sign and date the return, attach W-2, mail Sign and date the return, attach W-2, mail

to regional IRS office—Fresno, CA—to regional IRS office—Fresno, CA—refund, Cincinnati, OH--Payrefund, Cincinnati, OH--Pay

D.D. Form 1040A—can take deductions Form 1040A—can take deductions for IRA (Individual Retirement for IRA (Individual Retirement

Accounts) contributions, tax credit Accounts) contributions, tax credit for child-care expensesfor child-care expenses

a. Name, address, social security number

b. Filing statusc. Exemptionsd. Total income

e.e. Adjusted gross incomeAdjusted gross income

f.f. Subtract standard deduction and Subtract standard deduction and exemptions to calculate taxable exemptions to calculate taxable incomeincome

g.g. Compute tax—use tax table, subtract Compute tax—use tax table, subtract credit for childcare expenses, child credit for childcare expenses, child tax credit, subtract amount withheldtax credit, subtract amount withheld

h.h. Refund or Amount OwedRefund or Amount Owed

i.i. Sign and date returnSign and date return

Aren’t Taxes FUN??!!??Aren’t Taxes FUN??!!??