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Understanding Tax Basics

What is tax? Tax is a mandatory annual financial burden or any kind of levy imposed upon a taxpayer by the federal government in order to finance various public expenses and government spending. A person who is charged with tax evasion or any other crime involving tax, is termed as a tax evader. Evasion of or disobedience to tax, and penalties for tax evasion, are punishable by law in most countries. The IRS (Internal Revenue Service) is the entity responsible for collecting taxes from taxpayers.

All incomes, gains, property and income are liabilities for the Internal Revenue Service, and all must be taxed. Income taxes are collected from the salaries or wages received by individuals, corporations and partnerships and certain non-residents of the United States. Income taxes are collected by state governments through personal income taxes and payroll taxes. Property taxes are collected by local municipalities through property assessment fees and sales taxes.

Most states require individuals and businesses to pay personal income taxes and state property taxes. Some states, such as Alaska, exempt some incomes from personal income taxation. Many people also consider estate and gift taxes to be income for tax purposes. Gifts and bequests are subject to gift taxes and estate taxes.

Tax on real property is referred to as indirect tax. Tax on real property is different from property taxes because the amount of indirect tax is deducted when the property is transferred. This includes, when a home is purchased, the down payment made by the lender, the interest paid by the lender on the loan, closing costs and any improvements made to the home. The tax on real estate is often the largest because it includes depreciation, exemptions and mortgage interest.

Sales tax is a common type of indirect tax. Sales tax collects the tax on items purchased in a transaction between a buyer and a seller. The buyer may deduct the cost of the item as an itemized deduction. A seller can include the cost of the item in calculating sales tax.

Generally, individuals and businesses have the option of paying either income tax or sales tax. Income tax is often called the “user” tax while sales tax is called the “product” tax. The tax system in the United States is administered at the federal level with state governments collecting their own taxes. Federal and state taxes are usually equal because they consider the same factors when determining tax brackets for individuals and businesses. However, the sales tax bracket applies to many different areas of income in the United States.


Peter Conley

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