As the old saying goes, one of life’s only certainties is paying taxes. There are many ways to pay, and as the federal deadline approaches, it’s an apt time to explore them. With that in mind, here are some common tax types explained, plus tips for filing.
How Taxes Differ
Taxes are paid at varying times. While federal, state, and payroll are deducted from your paycheck, others are charged when you buy goods and services in the form of sales tax. States and local governments also charge excise taxes on certain items, such as cigarettes.
Not every type of tax is applicable to everyone. For example, there’s the federal estate tax, which would only apply if you died and your estate was worth more than $12,920,000. Likewise, if you don’t smoke, drink alcohol, or gamble, you can skirt paying those excise taxes.
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Types of Taxes
Let’s look at all the different types of taxes you might face, broken down into categories.
With this type of tax, you are taxed based on how much you earn. The United States has a progressive tax system, which generally means people owe more as they earn more.
There are seven income tax brackets for the 2022 tax year, ranging from 10% to 37%. Your bracket hinges on your earnings and filing status. In general, climbing the pay scale means progressively owing more taxes.
For taxes due this year, the rate is 10% for single filers who earned up to $10,275 in 2022.
With this type of tax, wealthy people pay less than others. Or it could mean a flat tax, in which the rate is the same for everyone. The latter is considered regressive since it would hurt low-income individuals more than it would affect the affluent.
For example, sales taxes are collected as a percentage of the sale price of goods and services. They are considered regressive because they comprise a bigger portion of low-income families’ overall household income.
Synonymous with flat tax, a proportional tax would be the same for everyone regardless of income level. While uncommon at the federal level, this type of tax is often present in state-level sales taxes.
This is a tax on what you spend. Sales taxes and excise taxes are types of consumption taxes.
It’s important to consider property taxes if you’re thinking of buying a house, land, or commercial real estate. Unless you’re eligible for an exemption, you must continue paying the taxes for as long as you own the property.
Depending on their state of residence and disability ratings, some veterans are eligible for homestead tax exemptions. In addition, some states have property tax exemptions for senior citizen homeowners. Guidelines vary among states, but the minimum age requirement is generally between 61 and 65.
Capital Gains Taxes
If you don’t invest, you won’t be responsible for these taxes as they are based on the capital gains when an investment is sold. However, you still might have to pay taxes on interest and dividends such as from a bank account.
These taxes are what you pay toward Social Security, Medicare, and federal unemployment benefits, in addition to disability and survivor benefits.
This is simply a tax on the amount you earn. Note that there are different tax rates for varying income brackets. While those who earn the most pay an elevated tax rate, it’s only paid on the amount in their bracket.
Estate and Inheritance Taxes
These taxes are paid following a person’s death and derive from the deceased’s net worth.
Essentially, the estate tax is a tax on your right to shift asset ownership when you die. As mentioned earlier, unless the filing threshold of $12,920,000 is met for the person’s year of death, most estates won’t require an estate tax return.
If the threshold is met, the Internal Revenue Service determines the fair market value of all the decedent’s assets, which becomes the “gross estate.” Following that, certain deductions, including property that will be transferred to a surviving spouse, are permitted in arriving at the “taxable estate.”
Some states impose an inheritance tax that you pay when you are the beneficiary of property or money from a deceased person’s estate. How much you owe would depend on your state and relationship with the deceased. In general, though, the taxable amount is based on the specific amount distributed.
Tips for Filing Taxes
Here are a few tips to keep in mind as tax time approaches.
Since taxes comprise a big portion of your overall financial planning, you would do well to seek out professional assistance such as a financial advisor.
Claim your credits
There are types of relief that could lower your tax bill. Those include a Recovery Rebate Credit, Child Tax Credit and Earned Income Tax Credit.
Know your rights
The Taxpayer Bill of Rights, which covers areas such as your privacy, is important to keep in mind during the filing process.
Collect your documents
Gather all required forms beforehand, so that you aren’t doing it piecemeal while you’re filing. Records you may need include canceled checks, W-2s, 1099s, and receipts.
Paying your taxes is simply a part of life. But if you do your paperwork carefully, you’ll have a better chance of not getting audited. Good luck and happy filing.