Taxes are a mandatory fee that governments collect to pay for government services and goods. They can be divided into three basic categories: taxes on what you earn, taxes on what you buy, and taxes on what you own.
Income tax
Income tax is a type of tax that governments impose on the income generated by businesses and individuals in their jurisdictions. It is a source of revenue for governments, used to fund public services and pay government obligations.
The income tax is designed to be progressive so that higher-income taxpayers pay a larger proportion of their income in taxes than lower-income earners do. The IRS estimates that the top 25 percent of earners paid 89 percent of all income taxes in 2020.
While the federal individual income tax is by far the largest revenue source, the government also collects payroll taxes and excise taxes such as those on alcohol and gasoline. These taxes help to finance Social Security and Medicare, unemployment insurance and other benefits. The Congressional Budget Office estimated that these taxes generated $1.6 trillion in federal revenue in 2020.
Capital gains tax
The capital gains tax is a type of tax that applies to profits from the sale of an asset like shares of stock, real estate or a work of art. The amount you owe depends on how much profit you made from the sale and whether it was long-term or short-term gains.
The rate of the capital gains tax is determined by your income level. You pay less tax if your total income is below certain thresholds and more if you earn more than that.
A taxable capital gain is equal to the value of an asset sold minus the “basis.” Basis is the price you paid for it. It also includes any commissions or expenses that you incurred in purchasing the asset.
If you hold an investment for more than a year, your profits from its sale are long-term gains and are subject to a lower capital gain tax rate. This is a good incentive to hold assets for long periods.
Sales tax
Sales tax is a type of indirect tax that taxes consumers for the purchase of goods or services. Retailers collect the sales tax from their customers and then remit it to the appropriate government entity.
Sales taxes are imposed by both state and local governments. These taxes are a major source of revenue for states.
In addition to sales taxes, many states also impose special taxes on certain kinds of services like car and hotel rentals and admission fees for events. These special taxes fall under the umbrella of the sales tax because they legally can be passed on to purchasers by showing the taxes as itemized on an invoice.
The majority of states charge sales taxes on products and services. Some of these states, such as Texas, allow local taxing jurisdictions to levy additional sales taxes on goods and services sold within their boundaries.
Consumption tax
These taxes vary from country to country and include value-added tax (VAT) and retail sales tax.
Consumption taxes are generally regressive, meaning that they affect low-income people more than high-income people. They also decrease the purchasing power of lower income people, which can lead them to spend less on goods and services.
In addition, consumption taxes can negatively impact the amount of work that low-income people do. This is because the purchasing power of an hour of work decreased when a tax was introduced.
Many critics of consumption taxes argue that they discourage saving, which can be beneficial to the economy in the long run. However, these advocates may be misguided. They often ignore the fact that a consumption tax can also be used to promote a culture of spending. This could be a good thing for the economy as long as it is implemented in the correct way.
