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The United States tax regime is a complex structure that involves payment of taxes to the different levels of government. Taxation in the United States includes paying taxes to the federal, state and local governments. In the United States' taxation history, tariffs were certainly the main source of income for the government since the 1970s until after the First World War, after which the income taxes became the chief source of revenue for the state. However, it was until 1861, when the Congress adopted the first federal statutes imposing the legal obligation to pay a federal income tax.
The Constitution of the United States allowed the Congress to impose direct taxes on the people as long as it was shared out among the states in accordance to each state's census residents. To put an end to the ambiguity of this statute, the Supreme Court decided that income from property was to be charged a direct tax as per the Constitution and therefore it was to be apportioned (Pollock v. Farmers' loan & trust company, 1895). The condition of apportionment made it impossible to levy taxes on property, and as a move to widen the tax base of direct taxes, Congress suggested an amendment of the sixteenth statute of the Constitution, which limited income tax to wages only. The amendment adapted the need to apportion all direct taxes except for income taxes -either direct or indirect-from apportionment.
During the Second World War, the Congress introduced withholding of payrolls and the payment of taxes on a quarterly basis to help in financing the war. Between 1952 and 1953, the income tax rate got to 92%, which was the highest in the taxation history of United States. Currently, according to a proposal by President George Bush, the tax rates are at the marginal rate of 35%. As of now, two-thirds of the population comes under the jurisdiction of the income tax, with the low-income earners not paying any income tax and in fact, they receive tax subsidies for child credits.
A mix of individual, business income taxes, borrowing, special assessment, and use of state property, payroll taxes and other taxes now finances the central government. Tariffs now account for only a minor fraction of federal income. To supplement their income, the government levies non-tax fees to compensate organizations for services or in order to fill particular trust funds for instance the fees imposed on air tickets. In addition to the common income tax, the central government also levies taxes on inheritance estates, Medicare and social security individual contributions, capital gains on disposal of assets and specific dividend income from the personal income of individuals (Roach, 2006).
Below is a list of all taxes and fees levied by state, federal and local laws. They include: the Alternative Minimum Tax, capital tax gains, corporate income tax, estate tax, excise tax, federal income tax, federal unemployment tax, federal insurance contributions taxes, gasoline tax, generation skipping tax, gift tax, luxury tax, property tax, real estate tax, recreational vehicle tax, rental car tax, resort tax, road usage taxes, sales tax, school tax , state income tax, state unemployment tax, tariffs, telephone federal excise tax, vehicle sales tax, workers compensation tax, occupational privilege tax and Internal Revenue service penalties.
Primarily, the Internal Revenue Service, a bureau of the Treasury, administers the central tax law. The U.S uses the Internal Revenue Code of 1986 in the administration of taxes on its citizens. The revenue code is regarded as complex owing to its use for other purposes as opposed to revenue collection and the lengthy response and ratification process involved in its amendment.
Despite the main aim of the tax law being provision collection of revenue for the central government, the tax code has other secondary functions for reasons of public policy like achieving political, social and economical goals by the government for the people. For instance, the tax law has a provision to deduct mortgage interest paid by individuals in order to encourage private residence ownership. Furthermore, this law does not recognize rent occupied homes and hence it disallows deductions for rent paid by renters.
The government uses the tax system to fulfill various objectives in the interest of the state. These include the general purpose of raising revenue which enables the government to run its operations efficiently. Through taxation, the federal government ensures fair distribution of income by taxing the rich at higher rates in an attempt to improve the welfare of the poor-through the progressive tax system. As a means of ensuring social welfare of the people, the government imposes prohibitive taxes on the production of harmful products like cigarettes as well as imposing heavy taxes on foreign companies and imports in order to protect the local industries. In a bid to support a particular activity of benefit to the populace, the Congress can institute changes in the tax law like introducing tax deduction as an incentive to the public (Ault, McDaniel, & Repetti, 2005).
The marginal taxation rate for income tax on individuals has been in the range of zero to 35% since 2001. However, this is dependent on the income of an individual, which determines whether one falls under the jurisdiction of this income tax. The U.S income tax is a progressive tax system, since individuals earning higher incomes pay taxes at higher rates as opposed to the individuals earning lower incomes. Income earned by corporations and dividend income paid out to shareholders also falls under the control of income tax. Although stockholders pay preferential taxes on dividend income; this is at times referred to as double taxation.
Income tax in the United States is exceptional because they use citizenship as well as residency to determine whether a person's income falls under the jurisdiction of the U.S. tax. That includes even those people who live abroad, but they source their income from thee U.S. This is unlike the situation in most countries whereby they do not tax non-resident citizens, not unless they source their income from that country, which is the only income they tax specifically. Nevertheless, there are certain provisions in the tax code which reduce the double-taxation effect by excluding some incomes from tax.
The government also allows for some tax deductions from the gross taxable income. These tax credits include allowable deductions such as amounts paid as mortgage interest for the purpose of purchasing a home, contributions to registered pension/provident funds scheme, amounts saved with registered home ownership schemes as an incentive to individuals to save money for home ownership and savings into individual retirement accounts for employees who do not participate in employer-supported pension plans. Though all the allowable deductions have a set limit above which the amount in excess is chargeable to tax. These tax credits are aimed at benefiting low and moderate income earning families, so as to relieve them off the big tax burden. The tax code also makes it possible to receive tax credit for amounts incurred on day-care or dependent care of a child (Isenbergh, 2006).
For the businesses, they must prepare a corporate expense account as a requirement under in the tax code to be grated tax credit on specific expenses incurred during the course of business. This account presents the business expenses as either accountable or unaccountable. The accountable expense accounts is subject to certain Internal Revenue Service regulations and restrictions, in that the business purpose leading to the operation of such an account must be documented and also all amounts spent from this account should be documented through use of receipts.
Calculation of income tax in the U.S. is computed through two methods. The first method is referred to as the regular tax method. It involves deducting all the allowable expenses and benefits from the gross income. The balance-the total taxable income is charged to a tax percentage according to an individuals' income bracket. From this result-gross tax payable, any allowable tax deductions like personal reliefs are subtracted and the result is the tax liability. But in some cases, the income tax owed may be a negative figure as a result of refundable tax deductions and/or when the withholding tax amount is bigger than the tax liability, these scenarios entitle the taxpayers to tax refunds. Such individuals who qualify for refundable credit can receive the refund without even paying any income tax, as is the case with earned income tax deduction (Doernberg, 2008).
The second method, referred to as the Alternative Minimum Tax is computed based on gross income, calculated without considering some specific tax preference items for example interest on some private activity stocks which is tax-exempt. There are very few tax credit and exemptions under this method unlike the regular tax method. The higher income base is subjected to tax at either the 26% and 28% tax bracket; this is pegged on the level of income of the taxpayer. These two methods differ in how certain incomes are treated for tax purposes. For instance, unrealized capital gains on incentive stocks are subject to tax at the date when the options are traded under the AMT method, whereas in contrast, under the regular tax system, taxes on capital gains are paid when the stocks are actually sold. However, the taxpayer pays the higher of either the regular or the AMT taxable amount as income tax.
The Alternative Minimum Tax system was developed to seal loopholes in the tax system that people used in avoiding taxes. Although the tax on unrealized capital gain on incentive stocks poses a problem for individuals who are not in a position to pay tax on gains they have not yet realized. This has made potential investors to shy away from such stock options due to the fear of falling into bankruptcy since the eventual amount paid may exceed the gain realized on disposal of stocks. Another supposed flaw in this method is that its tax rates were not lowered like those of the regular income tax system after the tax cuts in 2001. Consequently, most middle-class citizens are affected by these high rates of the AMT, more so for those who taxpayers with huge deductions, like federal income tax deductions and mortgage interest in particular, are the most affected. Also big families with many dependents, particularly children are likely to pay taxes under the AMT owing to the fact that large families should pay more taxes (Burke, 2007).
The AMT has further been criticized for not fulfilling its core functions that it was intended to fulfill after its introduction-to target the twenty-one millionaires who did not pay income tax after manipulation of their tax returns in order to avoid tax. The AMT which uses the rate of 26% or 28% does not meet its supposed aim of targeting individuals with an income of a million dollars who currently are only 35% of the total population. Therefore, it is improbable that these millionaires would feel the impact of the AMT since their effective taxation rates are actually higher than the rates AMT uses. Consequently, the individuals who feel the impact are the upper-middle class taxpayers who earn an income of $200,000-$500,000, end up paying about 50% of the total income taxes to the state.
The United States tax system operates a progressive kind of income tax. The term Progressivity with regard to tax implies that the higher the income a person earns, the higher the rate of tax such an individual pays. The principle of Progressivity in income tax is established mainly the aspect of having tax brackets - graduated categories of income which are taxed at differently and progressively high rates.
In the past few years, the tax rates applied on capital gains and dividend income have reduced significantly. This reduction in the tax imposed on income sourced from investments and savings has had a positive impact on taxpayers. However, some critics argue that it only high-income individuals who generally receive these kinds of earnings, and so from their argument these tax breaks are anti-progressive. In addition, the subject of progressivity has other purported flaws that there are more itemized deductions and tax credits availed to high-income individuals, as opposed to middle-class income taxpayers who can only make standard deductions from their incomes. The itemized allowable deductions include property taxes, payments to doctors, state taxes paid, medical insurance premiums, charitable contributions, prescription drugs and insulin expenses.
Further, other analysis reveal that progressivity of income tax does not put into consideration the tax on social security, that is amounts contributed should not exceed a certain stipulated amount. This is for the mere reason that insurance benefits from social security are determined directly by the individual tax contributions on social security over the lifetime of an individual. Therefore, in view of the fact that taxes on social security act as direct individual contributions which serve as a direct benefit to the individual.
The progressive kind of tax has ensured that the tax burden is fairly distributed. This is by reducing the tax incidence-the person who bears the final burden of a tax, for people who earn small incomes, by shifting the burden excessively to those earning higher incomes. The United States is virtually one of the few states where distribution of wealth is fair. After a comparison between the federal tax rate and the wealth distribution rate, the net wealth distribution of income, property and stocks was found to almost correspond with income tax share made according to an individual's class, wealth and income.
The other taxes levied in the U.S. generally have a regressive structure, whereby the burden falls more heavily on the poor than the rich. For instance, payroll taxes, Medicare tax and social security taxes are regressive in nature. Conversely, they are hard to avoid and mostly require the assistance of tax consultants on how to avoid them. They normally have no personal exemptions or standard deductions.
Second to the income tax, the next largest tax is the social security tax. Employers pay 6.2% of the employees' income and the employee pays 6.2% of income received, which totals to 12.4% of tax paid for social security by American taxpayers. For self-employed individuals, they pay the total 12.4% of the tax as they are regarded as their own employers. The social security tax is only paid on earned income up to a specific amount called a threshold income, also referred to as the Social Security Wage Base. This threshold for year 2010 is $106,800 with the ceiling for individual contribution being $6,621.60 and $13,243.20 combined. This SSWB increases each year in accordance to the average national index of wages.
Administration of the Social Security tax is governed by the Federal Insurance Contributions tax Act. Individuals' unearned incomes like rents, royalties, stocks, interest from bonds, dividends, interest from the money market and bank accounts are not subjected to Social Security tax. Therefore, by means of simple calculation, individuals earning higher incomes pay less tax which makes this tax an exceedingly regressive tax. Since, individuals who earn incomes above the SSWB level pay lower federal taxes while including Medicare and Social Security taxes combined, as compared to those at the SSWB mark.
The American taxpayers also pay the Medicare tax, whose aim is to fund the Medicare program-a health insurance program for the disabled and elderly persons. The employer pays 1.45% of the employee's income as Medicare tax, and the employee pays 1.45% of income earned, totaling to 2.9% of Medicare tax paid for a particular individual. But unlike the case in Social Security, there is no ceiling on the Medicare tax one should pay. For those in self-employment, their Medicare taxes are normally fixed at 2.9% on all incomes earned and it can be counterbalanced through income tax provisions.
Administration of the Medicare tax is governed by the Federal Insurance Contributions tax Act. An individuals' unearned income is not subjected to the Medicare tax. Jointly, Social Security tax and Medicare tax make up the payroll tax. These taxes are pegged only on income earned and usually reserved for certain specific purposes unlike in the case of Federal income tax. That is to say, there is a constitutional provision which spends on the Social Security and Medicare whose funds are sourced from accumulated trust funds and current taxes, of which if they go bankrupt, the Social Security and Medicare Administration would be devoid of the mandate to pay benefits accruing to contributors. Whereas, different from Congress, they cannot have access to loans based on the central government's creditworthiness in funding operations from the credit facilities.
Besides payroll taxes, the United States central government also charges corporate tax on company earnings which is at the rate of 35% currently. But when Treasury introduced "check the box" system, most companies opt to be considered as pass-through entities when being considered for tax, in that way skipping being taxed and instead having all earnings being passed through to stockholders. Through this tax treatment, most state corporations and or limited liability companies avoid being double taxed by "checking the box". The administration of corporate income tax is governed by the provisions of the Corporate tax Act of United States. For companies in the United States, most of their dividends are subjected to lower rates of income tax as opposed to other kinds of ordinary dividend incomes.
The U.S government also levies transfer taxes which encompasses the generation-skipping transfer tax, estate taxes and gift taxes. They generate approximately $30 billion of the central government's annual income of $2 trillion. The estate tax is imposed on property transfers done after the death of the transferor, the gift tax is charged on assets transfers for the duration when the transferor is alive. For the GSTT it is an additional tax made on both the estate and gift tax and usually charged on wealth transfers done during ones life or after death made to people who are more than a generation apart from the transferring individual, for instance, inheritance from a grandparent to a grandchild. More often than not, transfer taxes are borne by the transferor and or the transferor's estate. Taxable gifts also arise when the transferor pays the transfer taxes while the liability is due from the recipient (Boris I. Bittker, 2000)
The U.S. central government levies excise taxes also referred to as sin taxes on some firearms, motor fuel, cigarettes, diesel, air tickets, tanning services, telephone usage, tires, and liquor. Often, excise taxes are allotted to special funds associated with the activity or object imposed to tax. The Local government derives its finances from property taxes on real estate, sales taxes and use taxes. They also charge fees on building permits and fines on traffic and parking tickets and income tax.
In the U.S, both the federal payroll taxes and federal income taxes are collected by employers on behalf of the Internal Revenue Service; by deducting part of the taxpayer's income from their payroll checks directly. Also, those in self-employment make similar expenditures to the government. The withholding amount is computed on the basis of the employee's ordinary annual salary and status whether married and number of dependents. The disparity between actual tax and amount withheld is paid to the government at the year end or either the government refunds it. Individuals who do not have enough amounts withheld may be penalized.
Each state in the U.S also has its own tax structure as regards income, property and sales taxes for citizen within their borders, provided that these taxes do not infringe on any power held in reserve for the federal government. States are limited in how they can levy, these taxes should not hinder interstate trade and diplomacy or be discriminative based on gender, race and religion or nationality.
The cities and counties in different states may charge additional taxes, for example in order to pay the police, improve schools and parks, fund fire departments and repair roads. As in the case of the IRS, they generally require a tax payment account number. Other local governmental agencies may also have the power to tax, notably independent school districts. Local government generally levy collect property taxes, but can also collect income and sales taxes. Whereas, some cities levy income tax on both residents and non-residents working in the city, even when it is a temporary job (William A. Raabe, 2008).
In my opinion, Americans are highly taxed. For instance, the numerous taxes imposed on the citizens discourage savings and investment. Also, the AMT method does not factor in the aspect of inflation in computation of income tax due.