Taxes in USA

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Understanding U.S. Tax Terms: A Comprehensive Guide

The United States tax system is intricate, involving various tax types, terms, and regulations that impact individuals, businesses, and corporations. Whether you are an employee, employer, or independent contractor, understanding key tax terms is essential for compliance and financial planning. This article provides a detailed overview of fundamental U.S. tax terms and concepts.

1. Types of Taxes in the U.S.

A. Income Tax

Income tax is levied on wages, salaries, and other earnings. It is collected at the federal level by the Internal Revenue Service (IRS) and by state governments in most states. Employers withhold income tax from employee wages and remit it to the government. Individuals and businesses must file annual tax returns to report their income and pay any additional tax owed.

B. Payroll Tax (FICA & Medicare Tax)

The Federal Insurance Contributions Act (FICA) tax funds Social Security and Medicare. Employees and employers each contribute 6.2% of wages for Social Security and 1.45% for Medicare. Self-employed individuals must pay both portions, amounting to 15.3% in self-employment tax.

C. Corporate Tax

Businesses pay taxes on their profits. The federal corporate tax rate is 21%, though state corporate tax rates vary. Companies may also deduct certain expenses to lower their taxable income.

D. Sales Tax

Sales tax is imposed at the state and local levels on goods and services. The rates range from 0% to over 10%, depending on the state. Some states, such as Oregon and New Hampshire, do not have a sales tax.

E. Property Tax

Local governments assess property tax on real estate and personal property to fund public services such as schools, emergency services, and infrastructure.

F. Capital Gains Tax

This tax applies to profits from selling assets such as stocks or real estate. Short-term capital gains (held for less than a year) are taxed as ordinary income, while long-term capital gains (held for more than a year) have preferential tax rates of 0%, 15%, or 20%.

G. Excise Tax

Excise taxes apply to specific goods such as gasoline, tobacco, and alcohol. These taxes are often included in the purchase price.

H. Estate and Gift Tax

  • Estate tax applies to inherited wealth exceeding a specific threshold.
  • Gift tax applies to gifts above the annual exclusion limit ($18,000 in 2024).

2. Employment Tax Terms

A. W-2 vs. 1099 Workers

  • W-2 Employee: Works for an employer, with taxes withheld from their paycheck.
  • 1099 Independent Contractor: Self-employed and responsible for paying their own taxes, including self-employment tax.

B. Tax Withholding

Employers withhold taxes based on an employee’s W-4 form, which determines how much federal income tax should be deducted from each paycheck.

C. Tax Deductions & Credits

  • Deductions reduce taxable income (e.g., mortgage interest, student loan interest).
  • Credits directly reduce the tax owed (e.g., Child Tax Credit, Earned Income Tax Credit).

3. Key Tax Forms & Filing Requirements

A. Common Tax Forms

  • W-4: Determines how much tax is withheld from wages.
  • W-2: Issued by employers to employees, summarizing wages and tax withholdings.
  • 1099: Used for independent contractors to report income.
  • 1040: The standard individual income tax return form.
  • Schedule C: Reports self-employment income.
  • Form 941: Used by employers to report payroll taxes.

B. Tax Filing Deadlines

  • April 15: Standard federal tax return deadline.
  • October 15: Extended deadline for those who file for an extension (taxes still must be paid by April 15).

C. Tax Refunds & Payments

If too much tax is withheld, the IRS issues a tax refund. If too little is paid, the taxpayer must pay the balance due.

4. Tax Residency & Work Status

For tax purposes, individuals fall into different categories:

  1. U.S. Citizen or Permanent Resident (Green Card Holder) – Taxed on worldwide income.
  2. Resident Alien (Substantial Presence Test) – A foreign national meeting specific U.S. presence requirements, taxed similarly to a U.S. citizen.
  3. Non-Resident Alien – Only taxed on U.S.-sourced income.

5. State vs. Federal Taxes

Federal tax rates are consistent nationwide, but state tax laws vary:

  • No state income tax: Florida, Texas, Nevada, etc.
  • High state income tax: California, New York, etc.

6. Business & Self-Employed Tax Considerations

  • Self-employed individuals must make quarterly estimated tax payments.
  • Business expenses (e.g., office space, equipment, travel) can be deducted to lower taxable income.

Conclusion

Understanding U.S. tax terms is crucial for effective financial management and compliance. Whether you are an employee, self-employed, or a business owner, knowing how different taxes work can help you plan accordingly. Many individuals and businesses rely on tax professionals or software like TurboTax and H&R Block to ensure accurate filing and maximize deductions.

By staying informed about tax regulations, you can better navigate the complexities of the U.S. tax system and make informed financial decisions.