Economics / Unit 9: Government, Taxes and Fiscal Policy
9.2 Types of Taxes
Notes
- Individual income tax: a progressive tax on wages and other income. It is the federal government's largest source of revenue. Employers withhold it from paychecks.
- Payroll taxes (FICA): fund Social Security and Medicare; workers and employers each pay a share. The Social Security part applies only up to a yearly earnings limit.
- Corporate income tax: tax on corporations' profits.
- Excise taxes: taxes on specific goods such as gasoline, tobacco and alcohol. A sin tax aims partly to discourage use.
- Estate taxes on large inheritances, and tariffs (customs duties) on imports.
- State and local governments rely on sales taxes, property taxes (a main source of funding for local schools) and, in most states, state income taxes.
- Marginal tax rate is the rate on the last dollar earned. Average tax rate is total tax divided by total income.
- Worked example with hypothetical brackets: $10\%$ on the first $10,000, $20\%$ on income from $10,000 to $40,000, and $30\%$ above $40,000. On $50,000 of income, tax is $1{,}000 + 6{,}000 + 3{,}000 = 10{,}000$ dollars. The marginal rate is $30\%$; the average rate is $\displaystyle \frac{10{,}000}{50{,}000} = 20\%$.
Practice
Using hypothetical brackets of $10\%$ on the first $10,000 and $20\%$ on income from $10,000 to $40,000, how much tax is owed on $30,000 of income?
$0.10 \times 10{,}000 + 0.20 \times 20{,}000 = 1{,}000 + 4{,}000 = 5{,}000$.
A home is assessed at $250,000, and the local property tax rate is $1.2\%$. What is the yearly property tax?
$0.012 \times 250{,}000 = 3{,}000$.
A worker moves into a higher tax bracket after a raise. Under a bracket system, which statement is true?
Each rate applies only to the income within its bracket, so a raise never lowers after-tax income.
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