To advance the economy and meet the needs of citizens, governments tax its residents. Taxes allow governments to pay for things that are deemed necessary, such as roads, bridges, schools, hospitals, and police. This is done to promote the betterment of society. Depending on an individual’s income, there are different tax rates. Tax rates are determined by the tax bracket one falls under. Individuals who earn more than others are taxed at a higher rate. Tax rates can be applied to salary income, wages, dividends, capital gains deriving from investments, etc.
The tax rate is the percentage a person or business is taxed. Multiple methods of tax rate include: average, statutory, marginal and effective. Moreover, the tax rate can be either be inclusive or exclusive.
In an inclusive tax, the tax fee is account for, whereas in an exclusive tax, the tax fee is not included in the rate. An example of exclusive tax follows: if you buy an item for $50, and the tax is 10%, you would have to pay $50 for the item and $5 of tax. Using the same example geared toward an inclusive tax, the same item would still cost $55, but the $5 tax would be included in the original payment.
To derive at the average tax rate, a person or business’s taxable income is divided by the total tax percent. In other words, average tax rate can be determined by totaling all taxes a party is liable for by the party’s income. This rate is used to determine how much taxes an individual paid overall.
Statutory tax rate is the percentage of tax legally imposed by the government. So, for example, the total statutory corporate tax rate in the US is 35%. Considering all special preferences/adjustments to the amount owed by a corporation, the effective tax rate for corporations is 19%. Moreover, an effective tax rate is the total tax divided by taxable income. Simply put, effective tax rate stands for the rate you actually pay on taxable income.
Marginal tax rate stands for the percentage of tax applied to an individual’s earnings for each tax bracket one qualifies for. This tax rate can also be explained as the percentage on the last dollar earned. For example, the lowest earning individuals will be assigned the lowest marginal tax rate and vice versa. The highest earning individuals will be paying the highest marginal tax rate available, which as of now is 37%.
The effective tax rates are as follows:
Tax rates not only apply to earned wages or salaries, but also affect other taxes, such as real property tax, capital gains tax, and sales tax. Since state governments oversee sales tax, every state has its own unique sales tax rate. For instance, as of 2017 California’s sales tax rate is the highest of all states at 7.25%, while Colorado’s is 2.9%, the lowest of all states that are above a 0% sales tax. In fact, some states such as Montana and New Hampshire have a sales tax of 0%.
When a short or long-term capital gains investment reaps profits, tax rates are applied. A capital gain tax is a tax imposed on income derived from investments. A short-term capital gain is an investment held for lower than 12 months and is assigned the highest marginal tax rate. A marginal tax rate is a tax bracket that an income earner falls under depending on how much they earn. Any money invested for a period longer than 12 months is considered a long-term capital gain. A short-term capital gains tax has a higher tax rate than a long-term capital gains tax. Conversely, a long-term capital gains tax rate is lower than a long-term capital gains tax rate.
Regarding corporate tax rates, they went down this year from the highest in the world at 35% down to 21%, one of the lowest.
How Politics Affects the Tax Rate
Elections have profound consequences that extend far beyond the party that comes into power. In the United States for example, policies on economic growth have the ability to change tax rates in the country. Historically, Democrats and Republicans have differed on their view of tax rates. Democrats have historically favored higher taxes to support the development of infrastructure and funding for services, including housing and healthcare, while Republicans have generally supported lower taxes in favor of business growth.
Oftentimes the tax rates governments institute are dependent on the market goal at the time. When the economy is in recession, the government may print more money in order to increase consumer confidence. Because consumer confidence remains one of the best indicators of a strong economy, it is vital to promote policies that promote the interests of consumers. Other times, when consumer confidence is high, the government may raise taxes to pay down debt.
Another method the government will use in conjunction with the Federal Reserve is to print money. Printing money serves a few main purposes. When populations increase, the need for a larger money supply increases. Without a growing money supply to meet the demands of a rising population, consumers average income would likely decrease over time due to having the same amount of money for a larger population. Another instance when the Fed will raise will print money is when the government needs money to cover a major debt. This may result when a country wants to finance a war, pay for welfare programs, or develop needed infrastructure.
Printing money does not come without consequence. There is an important balance between how much money a government can print at any time. Too large a supply of money and the price of goods and services increases, and too little will diminish the buying power of consumers. Interest rates and tax rates will often rise when large amounts of money is infused into a country in a short period of time. To pay for the greater money supply, interest rates almost always increase dramatically.
How Taxes Are Applied
Taxes have the ability to influence business growth, consumer confidence, and household income. The full affect of tax rates can only be calculated when determining which tax applies to whom and by adding all combined taxes. Some taxes, like sales taxes for example apply to everyone, while others such as property taxes only apply to people that owner real estate. The total liability a consumer has can be determined by subtracting the total taxes minus the income they earn. This figure will show the taxpayer how much they truly earn after all taxes, including sales and property taxes. While this method is not the official method used by accountants to determine tax liability, it is the full and accurate number regarding how much a party truly keeps after paying taxes.
Corporate profits and other types of income that are earned are not subject to standard taxation. The term tax rate might be referenced when dealing with any type of tax including sales tax, property tax, capital gains tax, and other state by state specific taxes.
Tax rates apply to both state and federal taxes. While some states do not impose sales taxes, the federal government enforces taxes on every taxpayer, unless they make less than the minimum taxable amount.
When a taxpayer invests money their money, they will be subject to taxation for income earned. A party that earns a capital gain will pay 25% on their capital gain if it is a short-term gain. Long term capital gain profits are taxed at anywhere from zero to 20%. The specific tax one is subject to is dependent on the tax bracket they fall under. A taxpayer that is in the 25% marginal rate will pay 25%, while a taxpayer that falls into the 10-15% tax bracket will pay zero.
