The U.S. tax system is set up on both a federal and state level. There are several types of taxes: income, sales, capital gains, etc. Federal and state taxes are completely separate and each has its own authority to charge taxes. The federal government doesn’t have the right to interfere with state taxation. Each state has its own tax system that is separate from the other states. Within the state there may be several jurisdictions that also charge taxes. For example, counties or towns may charge their own school taxes that are in addition to state taxes. The U.S. tax system is quite complex.

Income Tax

Income tax is probably one of the most well known forms of taxation. If any of you earn income in the U.S. you will see the deductions on your paycheck. Every person who earns income in the U.S. is supposed to pay income tax on both the federal and state level. Federal taxes include social security and FICA. Each state also has its own form of income tax that employers also withhold from your paycheck. If you earn over a certain amount, $6,750, you must file both federal and state taxes before April 15th of each year.

For more information on federal taxes, go to http://www.irs.gov.

Sales Tax

Another form of tax that you will become very familiar with is sales tax. This is the tax that is charged on your purchases, such as if you buy a pack of gum. Sales tax is a state tax and varies from state to state as well as within the state. For example, NY State Sales Tax is 7% and NJ is 3%, but Albany has 8% sales tax while Syracuse has only 7%. Within the state, municipalities have the right to raise the sales tax above the state limit. There are also other rules surrounding sales tax, such as which items are taxed and which are not. For example, in NY gum is taxed, but milk is not. In NJ food is taxed, but clothes are not. As you can see the tax system in this country is quite complex.

In addition to the many types of taxes, there are also discrepancies between individuals and businesses.

We discussed briefly last week how the different business entities were taxed. Hopefully, we can now discuss that in a little more detail. As stated above, individuals must file their income tax before April 15th. If the person has a sole proprietorship, those earnings will be included on their personal income tax form. If a person is part of a partnership, their earnings from the partnership will be included on their personal income tax form. There are no taxes on the partnership as a whole, but on the earnings passed down to the partners. Partnerships are required to file a tax return, but it is only an informational return.

Corporations are a separate legal entity and are subject to corporate tax on taxable income. Corporate tax rates are different than personal tax rates. Corporate earnings are subject to double taxation. What this means is that corporations’ pay taxes on their earnings and then with after tax income they pay stockholders dividends, which are subject to capital gains tax. The dividends must be reported on the stockholder’s personal tax form and are taxed at capital gains tax rates. This is what is commonly called double taxation. I’m sure you will hear about this concept again.