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Chapter © 2010 South-Western, Cengage Learning Federal Income Tax 7.1 Our Tax System 7.2 Filing Tax Returns 7

Federal Income Tax

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7. Federal Income Tax. 7.1 Our Tax System 7.2 Filing Tax Returns. Lesson 7.1 Our Tax System. GOALS Explain the purpose of taxes and describe the different types of taxes. Describe the U.S. tax system and explain how it works. Purpose of Taxes. - PowerPoint PPT Presentation

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Page 1: Federal Income Tax

Chapter

© 2010 South-Western, Cengage Learning

Federal Income Tax

7.1 Our Tax System7.2 Filing Tax Returns

7

Page 2: Federal Income Tax

© 2010 South-Western, Cengage Learning

Chapter 7

SLIDE 2

Lesson 7.1

Our Tax System

GOALSExplain the purpose of taxes and

describe the different types of taxes.Describe the U.S. tax system and explain

how it works.

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Purpose of Taxes

In a free enterprise system such as ours, the government collects money from citizens and businesses in the form of taxes.

These incoming funds to the government are called revenue.

The government spends the revenues received according to priorities set by Congress.

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Types of Taxes

Progressive taxesRegressive taxesProportional taxes

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Progressive Taxes

Progressive taxes take a larger share of income as the amount of income grows.

Federal income taxes are progressive.

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Regressive Taxes

Regressive taxes take a smaller share of income as the amount of income grows.

Sales taxes are regressive.

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Proportional Taxes

Proportional taxes, or flat taxes, are taxes for which the rate stays the same, regardless of income.

Property taxes are proportional.

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Components of the Tax System

The IRSThe power to taxPaying your fair share

Tax rates apply to income ranges, or tax brackets.

Our income tax system is based on voluntary compliance, which means that all citizens are expected to prepare and file tax returns of their own accord without force.

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Components of the Tax System

Failure to pay taxesFailure to do so can result in a penalty:

interest charges on the taxes owed plus a possible fine.

Willful failure to pay taxes is called tax evasion, which is a serious crime punishable by a fine, imprisonment, or both.

(continued)

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An IRS Audit

Every year, the IRS calls millions of taxpayers for an audit, which is an examination of their tax returns.

Types of auditsOffice auditCorrespondence auditField audit

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Lesson 7.2

Filing Tax Returns

GOALSDefine basic tax terminology.Prepare tax forms 1040EZ and 1040A.

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Filing Status

Filing status describes your tax-filing group.

You must mark one of the following as your filing status on your tax form:Single person (not married)Married person filing a joint returnMarried person filing a separate return“Head of household”Qualifying widow(er)

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Exemptions

An exemption is an amount you may subtract from your income for each person who depends on your income to live.

Each exemption reduces your taxable income and thus your total tax.

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Exemptions—Who Qualifies

Yourself, unless someone else claims you on their return

Your spouse, if you are filing jointlyYour dependents

A dependent is a person who lives with you and for whom you pay more than half his or her living expenses.

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Gross Income

Gross income is all the taxable income you receive.

Earned income refers to money you earned from working.

Unearned income refers to money you received from passive activity (other than working).

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Common Types of Income

Wages, salaries, and tipsInterest incomeDividend incomeUnemployment compensationSocial security benefitsChild supportAlimony

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The law allows you to subtract some types of spending from gross income. You can “adjust” your income by subtracting such

things as contributions to individual retirement accounts, student loan interest, and tuition and fees.

These adjustments are subtracted from gross income to determine adjusted gross income. Adjustments reduce income that is subject to tax. Note that these adjustments are not available on

Form 1040EZ.

Adjusted Gross Income

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Adjusted Gross Income

Gross income– Adjustments

Adjusted gross income

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Taxable Income

Taxable income is the income on which you will pay tax.

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Taxable Income

Gross income– Adjustments

Adjusted gross income– Deductions– Exemptions

Taxable income

(continued)

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Deductions

Itemize deductions Standard deduction

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Itemize Deductions

Itemize deductions are expenses you can subtract from adjusted gross income to determine your taxable income.

Examples include: Medical and dental expenses beyond a specified percentage

of your income State and local income taxes Property taxes Home mortgage interest Gifts to charity Losses from theft or property damage Moving expenses

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Standard Deduction

If you do not have many deductions, your tax may be less if you take the standard deduction.

The standard deduction is a stated amount that you may subtract from adjusted gross income instead of itemizing your deductions.

This amount changes each year.

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Tax Credits

A tax credit is an amount subtracted directly from the tax owed. It is different from a deduction.

A deduction is subtracted from adjusted gross income. It reduces your tax by reducing the amount of income on

which the tax is figured. A tax credit reduces the tax itself.

The government allows tax credits for certain education expenses, child-care expenses, and other reasons from time to time.

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Preparing Your Income Tax Return

Who must file?When to file?Which form to use?Where to begin?Filing electronicallyTax preparation software

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Form 1040EZ

Step 1: Name, address, and Social Security number

Step 2: Report incomeStep 3: Compute taxStep 4: Refund or amount owedStep 5: Sign the return

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Form 1040A

Step 1: Name and address Step 2: Filing status Step 3: Exemptions Step 4: Income Step 5: Adjusted gross income Step 6: Taxable income Step 7: Tax, credits, and payments Step 8: Refund or amount owed Step 9: Signature