Tax Planning

Types of Tax

  • Taxes on purchases

    • Sales tax - all but five states have a general sales tax

    • Excise tax - imposed by federal and state gov’t on specific goods and services

  • Taxes on property

    • Real estate property tax - based on the value of land and buildings

    • Personal property tax - based on the value of automobiles, boats, furniture, farm equipment, and even livestock

  • Taxes on wealth

    • Estate tax - imposed on the value of property at the time of death

    • Inheritance tax - levied on the value of property bequeathed by a deceased person

  • Taxes on earnings

    • Federal Insurance Contributions Act taxes: 6.2% Social security: 1.45% Medicare tax, for a total of 7.65%

    • Income tax - levied by federal, state, and local gov’t

  1. Adjusted Gross Income

    • Components

      • Earned income - wages, salary, commission, fees, tips, or bonuses

      • Investment (portfolio) income - money received in the form of dividends, interest, or rent from investments

      • Passive income - business activities in which you do not actively participate

      • Affected by exclusions - an amount not included

      • Tax-exempt income - not subject to tax

      • Tax-deferred income - taxed at a later date

      • AGI - gross income after certain reductions (adjustments to income)

        • Contributions to IRA

        • Penalties

        • Student loan interest

        • Tax shelters - investments that provide tax benefits

  2. Taxable Income

    • Tax deduction - amount subtracted from adjusted gross income to arrive at taxable income

    • Taxable income - the basis for computing the amount of tax owed

    • Standard deduction - no taxes are paid

      • $13,850 for single

      • $27,700 for married

    • Itemized deductions - medical and dental expenses, real estate, home mortgage

  3. Ex. Taxable Income

Consider the following tax information:

Gross salary $56,145 Adjustments to income $1,200

Interest earnings $200 Standard deduction $13,850

Dividend income $65 Itemized deductions $11,250

Calculate the amount of taxable income

• Gross income = $56,145 + $200 + $65 = $56,410

• Adjusted gross income (AGI) = $56,410 - $1,200 = $55,210

• Taxable income = $55,210 - $13,850 = $41,360

Taxes Owed

  • Your taxable basis is the basis for computing the amount of tax owed

    • Marginal tax rates - used to calculate tax on the last (and next) dollar of taxable income

    • Average tax rates - based on the total tax due divided by taxable income

Tax Credits

  • Tax credits - subtracted directly from the amount of taxes owed

Total tax due = tax liability - tax credits

Making Tax Payments

  • Pay federal income taxes through either payroll withholding or estimated tax payments

    • Withholding - an employer deducts federal income tax from your pay

    • Estimated payments - income received from savings, independent contracting, royalties, and pension payments

Ex. Tax payment or refund

  • Taxes due - federal income tax withheld

Income Tax Return

  • If their income is above a certain amount

  • Form 1040

State Income Tax

  • All but eight states

  • Range from 1 to 10 percent

Summary

• Taxable income is determined by subtracting adjustments to income and deductions from gross income

• Your total tax liability is based on the published tax tables or tax schedules, less any tax credits

• You may reduce your tax burden through careful planning and making financial decisions related to consumer purchasing and the use of debt, investments, and retirement planning