- Taxes are an important part of your budget. It is essential to plan correctly and pay on time.
- Common types of taxes are federal, state, payroll, sales, and property taxes.
- Tax filing dates for federal and state income tax are generally around April 15th.
You know the old saying: the only two sure things in life are death and taxes.
Since death usually takes care of itself, the one you really have to worry about is taxes.
Taxes come in lots of different forms, so they can impact your personal finances in a variety of ways. They create responsibilities for you to file tax returns and pay taxes, and their cost can significantly impact how you budget for buying things and owning a home.
This article will take you through several types of taxes, including:
- Federal taxes
- State taxes
- Payroll taxes
- Sales taxes
- Property taxes
It will also give some tips on budgeting for taxes and filing your returns, as well as answer some frequently asked questions about taxes.
The federal government charges a tax on income earned. This includes wages as well as investment income and net capital gains.
Taxes are assessed as a percentage of earnings. That percentage can change according to how much you make and what type of income you have.
The percentage rate at which federal taxes are charged is set according to different tax brackets. When your income reaches a certain level, your tax bracket changes.
This is designed so that in theory, the more money people make, the higher the percentage tax rate they pay.
These percentages may vary with changes in the tax law. As of the most recent tax year for which the IRS has complete filing information available (2019), federal tax brackets ranged from 0% to 37%.
The most common rate at which Americans were assessed federal taxes was 12%. Roughly one-third of all tax returns filed were in this tax bracket.
Paying tax as a percentage of income is fairly easy to understand. However, two things complicate the picture somewhat:
- Tax deductions. These are amounts you can exclude from the income on which your taxes are calculated. Deductions may be based on how many dependents you have, donations and certain types of expenses.
- Tax credits. These directly reduce the amount of your tax bill. Dollar-for-dollar, tax credits save you even more than deductions do. A deduction reduces the amount of your income that is taxed, so you only save the portion of the deduction equal to what you would have been taxed on the value of that deduction. A tax credit is a direct reduction of your tax bill, so you save 100% of the amount of a tax credit.
Not everything is paid for by the federal government, so most states also charge income taxes to pay for services provided by the state.
According to the Tax Foundation, seven states have absolutely no income tax. One state has an income tax that applies only to interest and dividends, and another a tax that applies only to capital gains.
The other 41 states largely take their cue from federal taxes in terms of what is considered taxable income. State taxes are also often divided into brackets that depend on how much a taxpayer makes, though the percentages overall are lower than federal tax brackets.
When you look at your pay stub, you may notice that in addition to withholding for federal and state taxes, there are also a variety of other taxes taken out. These are known as payroll taxes.
While federal and state taxes go toward paying expenses for government programs in general, payroll taxes go primarily to support programs designed specifically to benefit the workforce. These programs include Social Security, Medicare and worker’s compensation.
Payroll taxes are calculated according to a set formula and automatically taken out of an employee’s wages. However, if you are self-employed or a freelancer you may have to calculate and pay a self-employment tax on your federal tax returns.
Sales taxes are charged as a percentage of the purchase price of most items you buy. They are calculated automatically by merchants and added to the amount you owe. The merchant is then responsible for passing the taxes along to the appropriate taxing authority.
Sales taxes are set at both the state and local level, so they can vary a great deal depending on where you go.
Property taxes, also known as real estate taxes, are based on a percentage of the assessed value of your property.
Property tax rates are determined locally, and the revenues typically go to financing local services - most notably, schools.
According to the Tax Foundation, property taxes paid as a percentage of property values range from a low of 0.31% in Hawaii to a high of 2.21% in New Jersey.
Besides the percentage tax rate, the assessed value of your home is the key determinant of how much property tax you’ll owe. This differs from taxes like income and sales taxes in that you don’t have to do anything during the tax year to incur taxes. As long as you own the property, you’ll be expected to pay property taxes on it.
Filing Your Tax Returns
Taxpayers are typically required to file state and local tax returns by April 15 following the tax year for which they are filing. This may differ slightly if April 15 falls on a weekend or national holiday.
The calculations in your tax returns compare your tax liability with the amount you’ve already paid for the tax year. If you’ve already paid more than your tax liability, you may be entitled to a refund or elect to have that amount paid towards your next year’s taxes.
If you have paid less than your tax liability, you’ll be required to submit the remaining amount you owe by April 15. Even if you get an extension of the deadline for filing your return, you are expected to pay what you owe by April 15 based on an estimation of your tax liability.
If you don’t pay what you owe on time, you are likely to be subject to penalties plus interest charges on the amount owed. Not filing your tax return can also result in penalties, and may affect your eligibility for certain government benefits.
Budgeting for Taxes
In all their forms, taxes can add to your cost of living. That’s why it’s important to account for that when making a budget for your income and expenses.
For example, withholding will reduce the amount in your paycheck. So, you should budget based on your take-home pay, not on your full salary.
Also, when you buy something, don’t forget to account for the sales tax that will be added to the price tag. This is especially important when buying big-ticket items.
Finally, if your income varies a lot throughout the year, there is a chance you may owe a substantial amount of taxes come April 15. If you suspect that might be the case, be sure to set aside enough to pay those taxes when the time comes. Otherwise, you may add to the size of the tax bill by incurring interest and penalties or having to go into debt to pay your taxes.
People generally aren’t thrilled about having to pay taxes, but it is considered a civic duty. And, like it or not, if you don’t pay your taxes the government may make you pay a much higher price.
If I split my time between two states, can I choose which one I want to pay income taxes in - or do I have to pay taxes in both?
You may have to file returns in both states, but generally you shouldn’t have to double up the amount of tax you pay. There are agreements between some states that allow you to only pay tax in one of them. Otherwise, how much time you spent in each state and/or where you earned the money is likely to be the determining factor. Check the rules for each state to make sure you follow the appropriate filing requirements.
Since there’s already tax withholding from my weekly paychecks, do I have to file a tax return at the end of the year?
Yes. Tax withholding is just an estimate of what you’ll owe. At the end of the year, you have to compare the amount of withholding you paid with your actual tax liability. Besides the fact that you are required to file a return, doing so may work in your favor. You may be in line for a refund based on tax credits or having more withheld than you actually owe.