Yes, I know, tax terminology feels like a whole new language. For most people all of tax forms can be even more confusing than a foreign language. What’s the difference between itemized deduction and standard deduction? What’s Income tax?
These words and more tax terms are found in all the forms you must fill out while filing your annual tax return. While you can help educate yourself with books or videos, getting familiar with the basic terms and definitions will be a helpful first step – so you don’t get stressed out!
In the next few paragraphs, I’ll explain what you need to know about tax terminology and the link to the IRS Taxes Glossary if you have more questions.
What are some terms associated with income tax?
According to the IRS, income tax is the tax calculated on both earned (such as salaries, wages, tips, commissions, etc.) and unearned (interest, dividends) income. Income taxes can be levied on both individuals (personal income taxes) and businesses (business and corporate income taxes). In the United States, individual income taxes are levied at the federal level as well as in most states.
As in many nations, in the United States income tax is progressive, this means that the percentage of your income that you pay in taxes, increases income increases. In the United States levies income tax rates ranging from 10 percent to 37 percent. Read more about tax brackets and how they work HERE.
This marginal tax rate is affected by a variety of factors, including their filing status (single, head of household, married filing jointly, married filing separately). Which status a person files can make a significant difference in how much they are taxed.
What are the 5 types of taxes?
Unfortunately, Income taxes are not the only taxes you may be subject at some point. Yes, I know, bummer!
In addition to Income Tax, here are 4 more common types of taxes:
-Excise tax
According to the IRS glossary, the definition of this is “a tax on the sale or use of specific products or transactions”. You pay these when you purchase certain goods. Frequently these are already included in their cost. If the item, good, service or product is subject as well to sales tax, you might be paying tax on a tax. The best example is the federal gasoline excise tax of 18.4% (24.4% on diesel fuel).
Other examples of products and services charged with excise taxes are tobacco, alcohol, wagering, road use by trucks, and tanning salons. Some states charge an excise tax on the sale of a home. It’s important to keep in mind that excise taxes are not sales tax, so you can’t claim them as an itemized deduction on your federal tax return.
-Sales Tax
The IRS glossary defines this as “A tax on retail products based on a set percentage of retail cost”. A sales tax is levied on retail sales of goods and services. However, many governments exempt goods like groceries or meds. Therefore, sales tax tends to affect the wealthy more because the more you consume, the more you are subject to pay it.
Every state and local government is involved in setting their own sales tax rates. The federal government that doesn’t get involved in setting a standardized rate for this tax. Every state, except Delaware, Montana, New Hampshire and Oregon assesses sales tax. Alaska is a special case, this state does not levy sales tax, however, several municipal governments do.
-Property Taxes
“Taxes on property, especially real estate, but also can be on boats, automobiles (often paid along with licenses fees), recreational vehicles, and business inventories”. In other words, a property tax is levied on immovable property (such as land and buildings), as well as on movable property (such as vehicles and equipment). Property taxes are calculated based on the value of the property.
Property taxes are the largest source of state and local revenue in the country. In the United States the funds typically go toward local concerns, such as drinking water, helping fund schools, road maintenance, police, sewage treatment, and other services.
-Estate Tax
This tax is targeted at the wealthy, on the total value of an estate if it exceeds a certain amount, after any exclusions or credits, at the time of death. For 2022, the estate tax exclusion amount is $12,060,000, and $12,920,000 for 2023. A married couple filing jointly gets twice that amount. Any money inherited beyond this amount is taxes at a top tax rate of 40%.
What are tax terminologies?
Taxes are mandatory contributions from individuals or corporate residents by a government entity, whether local, regional or national. These revenues from taxes finance government activities as mentioned above, or programs such as Social Security and Medicare. A tax requires money to be taken or a percentage of the taxpayer’s earnings remitted to the government.
Payment of taxes at rates levied by the government is compulsory, and tax evasion is punishable by law. Most governments use a secretariat, agency or department to collect taxes. In the United States this function is performed federally by the Internal Revenue Service (IRS).
I once heard that taxes are an annual subscription to live in your home country and the free trial is your childhood. It seems pretty fitting, but it would be quite hard to quit before the free trial is over!
What tax terms do I need to know?
To help you understand common tax terms there is the following list of tax terms you may encounter when filing your taxes:
-401(k) plan
An employer-sponsored retirement savings plan through which employees divert part of their
salary to a tax/deferred investment account. Your salary put in the plan is not taxed until it is later withdrawn, presumably in retirement. If you make any withdraw before the age of 55, penalties could apply. Although most plans allow employees to borrow limited amounts tax, and penalty free from their accounts.
-Above the Line Deductions
An above the line deduction is an amount you can claim on your taxes that reduces how much tax you’ll owe. You can claim above the line deductions whether or not you choose to itemize your deductions. Examples are educator expenses, student loan interest deduction, contributions to a health savings account, and amounts paid for tuition and fees.
-Adjusted Gross Income (AGI)
Your AGI is your income subject to tax, minus certain deductions. It’s an important number,
because the IRS uses your AGI to calculate you qualify for other tax credit or deductions.
-Capital Gains
Profit generated as result of selling a capital asset, such as real estate, stocks, bonds or any other property for more than you paid for it. The amount of taxes you pay depends on how long you hold your capital asset.
-Capital Losses
You may have a capital loss when you sell an asset for less than you paid for it. When your total capital losses exceed your capital gains in a year, you can claim a total loss up to $3,000 to reduce your taxable income. The IRS allows you to claim any unused losses in the following tax years.
-Child Tax Credit
Child tax credit is a financial benefit to families with qualifying children. For the 2021 tax year, the IRS allows you to claim up to $3,600 per child under 6. $3,000 per child ages 6 to 17. The credit lowers the amount you owe in taxes and is fully refundable, which means you can expect a tax refund even if you do not owe taxes.
-Cryptocurrency Tax Rate
In general terms, cryptocurrency is taxed by the IRS similar to capital gains. However, how much would you pay in taxes on your crypto, depends on how long you hold the cryptocurrency before you sell it. If you hold it more than a year, gains are taxed up to 20% for 2022. If you hold it one year or less, your gains are taxed at ordinary income tax rates up to 37% for 2022.
-Dependents
A dependent can be a qualifying child or qualifying relative, other than taxpayer or spouse, who relies on the taxpayer for financial support, who entitles the taxpayer to claim a dependency exemption.
-Earned Income Credit (EITC)
A tax credit designed to provide financial assistance for certain people who work, meet certain
requirements, and have earned income under a specified limit (defined up to $57,414 for 2021). This credit is a refundable tax credit, which means it can reduce the amount of taxes you owe and generate a refund.
For 2021’s EITC, you can claim up to $1,502 if you don’t have children and up to $6,728 with three or more qualifying children.
-Filing status
Your filing status determines the rate at which income is taxed. The five filing statuses are: single, married filing a joint return, married filing a separate return, head of household, and qualifying window(er) with dependent child.
-Itemized Deductions
These deductions are expenses you can claim on your federal income tax return to lower your
taxes. Some of these deductions are medical and dental cost, charitable donations, state income taxes and casualty losses.
-Nontaxable Income
Income you receive on which you don’t have to pay taxes. Examples of these are child support payments, gift and cash rebates.
-Standard Deductions
A standard deduction reduces the income subject to tax and varies depending on filing status, age, blindness and dependency. Is a flat amount that the IRS allows you to reduce your taxes based on your filing status. The IRS allows you to choose between deducting your itemized deductions or the applicable standard deduction.
-Tax deduction
An amount (personal or business expense) that reduces income subject to tax, lowering your tax bill. Examples are standard deductions, itemized deductions, or above the line deductions.
You can visit the IRS Understanding Taxes Student if there is any other specific term you were looking for and I didn’t include it on the list above. If you need help with your taxes and any other manner of official questions, consider working with a financial advisor at Molen & Associates. Call us today.
Edgar Castillo,
Tax & Accounting
