Chapter 9 Sources of Government Revenue Section 1

• Sin tax• a relatively high tax• Raise revenue– Used to fund treatment and prevention

• Discourage an undesirable product– Liquor– Tobacco

• Incidence of a tax• the final burden of the tax

Tax loopholes

• exceptions or oversights in the tax law that allow select individuals and businesses to avoid paying taxes.

• Raise a question of fairness.

Individual income tax

• tax on a person annual earnings (salary, wages, tips, etc.)

• A complex tax• Many rules apply to – how much is taxable– How much is deductible

Marginal and Average Taxes Worksheet

• Marginal tax rate- the rate at which the last dollar of income is taxed. (Not a flat rate across entire income.)

• Average Tax- average tax burden across entire income.• Personal Exemption- a dollar amount provided by the Federal

Government that is deducted from income for yourself and each dependent. Government provides deductions to help the economy.

• Examples– Yourself– Child (each)– Mortgage

Sales tax

• levied on most consumer products• Simple tax– Paid on time of purchase– Uniform for all products• CA = 7.5%

• Exemptions include:– Basic foods (not processed)– Child care– medicine

Benefit principles of taxation

• those who benefit from government goods and services should pay in proportion to the amount of benefits they receive

• A guiding principle of taxation.– Ex: Gas tax paid only by users at gas stations• Pays for interests of users of gasoline• Highways

Ability-to-pay principle of taxation

• the belief that people should be taxed according to their ability to pay.

• Recognizes– That society cannot measure the benefits derived

from government spending.– The assumption is that people with higher

incomes suffer less discomfort paying taxes than people with lower incomes.

Proportional tax

• imposes the same percentage of taxation on everyone, regardless of income.– A 20% tax would mean• $10,000 income, tax would be $2000.• $100,000 income, tax would be $20,000

– Examples• Some states have a proportional income tax.• Tithe- a payment of 10% of your income to a religious

organization.

Average tax rate

• total taxable income divided by the total income

• Constant, regardless of income– If income increases, the percentage stays the

same.

Progressive tax• imposes a tax with a higher rate of taxation on

person with higher income.• Marginal tax rate• Applies a levy to the next dollar of taxable income• The rate increases as the amount of taxable income

increases– $10,000 income, tax is $1000– $20,000 income, tax is $2000– $100,000 income, tax is $20,000– Points of percentage increase are called “brackets”

Regressive tax

• A tax that imposes a higher percentage rate of taxation on low incomes than on high incomes.

• Sales tax is harder on lower income people than higher income people.

• Examples:– Sin Taxes– Sales Tax– Social Security (caps out at higher levels of income)

Section 2:

• Payroll withholding system• requires the employer to automatically deduct

income taxes from an employee’s paycheck.– W-2 form starts the process– W-2 statement informs employee • total annual gross income, • net income, • taxes withheld.

Internal Revenue Service (IRS)

• Branch of the US government that collects taxes.

• Part of the Department of the Treasury

Tax return

• an annual report filed by the employee to the IRS– Total income– Deductions– Taxes withheld by employers

• Must be submitted by April 15th if employee owes any more taxes.– If employer paid more taxes, the employee will

receive a payment from the government.

Indexing

• an upward revision of the tax brackets to keep workers from paying more in taxes just because of inflation.

FICA• Federal Insurance Contributions Act– Tax levied on both employers and employees to pay for

Social Security and • Medicare• A federal health-care program available to all senior

citizens– Regardless of paying the tax for Social Security and

Medicare• Payroll tax– Revenue deducted from a person’s paycheck by the

government.• FICA

Corporate tax

• a corporation pays an income tax as if it were an individual.

• Based on profits• Brackets as of printing were:– 15% up to $50,000– 25% $50,001 to $75,000– 34% $75,001 to $18.3 million – 35% $18.3 million and over.

Excise tax

• A tax on the manufacture or sale of selected items– Gasoline– Liquor– Telephone service– Tires– Legal betting– Coal– Luxury goods

• A regressive tax as lower-income people pay more of their income than higher income people.

Luxury good

• good or service where demand for the good rises faster than income, when income grows.– Vehicles over $40,000– Large pleasure boats– Private planes– Jewelry– Furs

• Phased out by Congress in 2002

Estate tax

• tax levied on the transfer of property when a person dies.

• Usually on property OVER $2 million.• Aka, “death tax”

Gift tax

• tax on large amount of money or wealth “donated” by a person to others to avoid paying larger income taxes.

Customs duty

• tax on imported goods or goods brought in by travelers from other countries.– Automobiles– Jewelry– Metals

• Until 1913, the main source of revenue of the United States– Replaced by income tax that year.

User fees

• Charges for the use of a good or service.• Ex: National park fees

Assessments: Checking for Understanding

• 1 List the ways that taxes influence the economy.

• Resource allocation• Behavior adjustment• Productivity and growth• Incidence of a tax

• 3 Describe the economic impact of taxes• They affect – resource allocation– Consumer behavior– The nation’s productivity and growth

• 4 List three criteria to evaluate taxes.• Equity• Simplicity • Efficiency

• 5 The two main principles of taxation. (just list them)

• Benefit principle• Ability-to-pay principle

• 6 Explain the characteristics of proportional, progressive, and regressive taxes.

• Proportional:– Same percentage rate of taxation on everyone

• Progressive:– Imposes higher percentage rate on person with higher

incomes

• Regressive:– Imposes a higher percentage rate on lower incomes as

compared to high incomes.

Assessments: Checking for Understanding

• 1 List the federal government’s most important revenue sources.

• Individual income taxes• FICA taxes• Corporate income taxes

• 3 Describe the progressive nature of the individual income tax.

• It imposes a higher percentage rate of taxation on persons with higher income.

• 4 Identify the main marginal tax brackets in the corporate income tax structure .

• 15%• 25%• 34%• 35%

• 5 Describe the other sources of government revenue.

• Excise taxes• Estate taxes• Gift taxes• Customs duties• User fees for the use of a good or service.

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• What information does the graph show for the period 1980 to 2000?

• Total government receipts grew from 500% of the 1940 level to over 700%

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• Who is likely to bear the greater burden- the producer or consumer- if a tax is placed on medicine?

• The demand for medicine is generally inelastic• The consumer will bear the greater burden of

a tax on medicine.

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• According to the ability-to-pay principle, how is the amount each person has to pay determined?

• The amount each pays depends on how much income each earns

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• Under which type of tax do individuals with lower incomes pay a smaller percentage than do those with higher incomes?

• Progressive tax

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• How did these occurrences change the composition of government revenues between 1990 and 2004?

• Borrowing decreased and taxes increased

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• How much in taxes would an individual with $40,000 of taxable income pay?

• $6,810.00• Solution:• $3,910 + .25 ($40,000 – $28,400) =• $3,910 + $2,900 = $6,810

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• Is the FICA tax a progressive or regressive tax? Explain your reasoning.

• A regressive tax• Because the Social Security portion of FICA is

capped at a certain income level– The higher the income, the lower the FICA tax.

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• What are luxury Goods?• Goods or services for which the demand rises

faster than income when income grows.