Individual Income Tax Law
Tax law provides the rules taxpayers must follow when calculating, reporting, and paying their tax obligations each year. It also provides the rules state, local, and federal governments must follow in assessing and collecting taxes. The most comprehensive source of tax law in the United States is the Internal Revenue Code (IRC), which covers the procedures, policies, and penalties necessary for federal tax collection.
All states also have tax laws governing things like sales taxes and property taxes. However, those states that collect an income tax usually base their laws on those outlined in the IRC.
Nearly all Americans must file an individual income tax return with the Internal Revenue Service (IRS) each year. Even if you are one of the lucky few who does not need to file, either because you don't have any income or for other reasons, it's still a good idea to file a return. That's because many federal benefits for low- to moderate-income taxpayers are based on your federal returns. For example, the earned income tax credit (EITC) can increase the size of your refund a great deal if you qualify.
The following sections will provide an overview of federal income tax law.
Personal Income Tax
When most people think of taxes, they think of the federal income tax U.S. citizens and residents must pay on their income each April 15. The income tax is an important source of revenue for the federal government, and the IRC lists the laws that taxpayers and the government must follow.
For the purposes of the income tax, income usually includes any wages, tips, commissions, dividends, alimony, capital gains, unemployment benefits, retirement distributions, and Social Security benefits received during the tax year.
How Tax Rates Are Determined
Not all income is taxed at the same rate. The U.S. has a progressive tax system. That means each level of income is taxed at a progressively higher rate.
For example, let's say you earned $60,000 in 2023. If you are single and those earnings are treated as ordinary income, the first $11,000 is taxed at 10%, the amount between $11,001 and $44,725 is taxed at 12%, and the amount from $44,725 to $60,000 is taxed at 22%. So, while someone who earns $60,000 is in the 22% tax bracket, the income tax rate they actually pay on all of their income is a little more than 13%.
In addition to basing the amount of tax you pay on the amount of income you earn, the tax code uses your filing status to determine your tax rate. That means the tax bracket will depend on whether you are single, a married couple filing a joint return, married and filing separate returns, a widow or widower, or a head of household. In general, a head of household is an individual with a qualifying child or dependent.
Types of Income
The U.S. tax system divides most individual income into two categories: ordinary income and capital gains. Ordinary income includes most compensation, including wages, income from a business you own, and retirement benefits. Capital gains are the profits you earn on the sale of any asset you have held for longer than one year, while assets held for less than one year are treated as ordinary income.
It usually benefits taxpayers to get as much of their income as possible classified as capital gains because the capital gains tax rate is lower than the rate on ordinary income.
Tax Deductions and Credits
Tax deductions are amounts that can be subtracted from your income to reduce your tax liability. Taxpayers have the option of claiming the standard deduction or itemizing, depending on which benefits their financial situation more. Most individual taxpayers claim the standard deduction that was added to the tax code by the Tax Cuts and Jobs Act of 2017.
The tax reform replaced what was known as the personal exemption with the standard deduction, which is the same amount for all taxpayers in the same situations. For example, in 2023, the personal exemption for a single taxpayer was $13,850. Thus, a single taxpayer who earned $60,000 in 2023 would only pay tax on $46,150 of that amount.
If you have deductible expenses greater than the standard deduction, you can claim itemized deductions. That allows you to deduct such things as real estate taxes, state income taxes, and contributions to tax-exempt organizations. Some items, such as student loan interest and contributions to IRAs, are often referred to as deductions but are actually adjustments to income that can be claimed, regardless of whether you claim the standard deduction or itemize.
Tax credits are similar to deductions, but instead of reducing your income, they reduce the tax you would owe on your income. Thus, if you owe $1,000 in taxes and can claim a $500 tax credit, your tax bill would be reduced to $500.
Why Tax Laws Matter
Tax laws provide guidance to both taxpayers and the government. The IRC was enacted by Congress and is regularly updated to address problems in the code, help some types of taxpayers, and prevent other taxpayers from taking advantage of the system. Since the IRC can't possibly address every tax situation, the IRS provides rules and regulations that apply tax law to specific tax situations.
Tax laws also address the punishments the IRS can impose on individuals who don't follow the tax laws and regulations. They dictate the methods the IRS can use to collect, which types of penalties it can impose, and how large they can be. Additionally, the IRC outlines your rights as a taxpayer when you are dealing with the IRS. Those rights are listed in the Taxpayer Bill of Rights, which puts all of the taxpayer rights in one tax code section.
More Questions About Tax Law? Talk to a Lawyer
If you have any questions about tax laws and how they apply to your personal situation, you may want to speak to a local tax attorney. A tax attorney can assess your financial situation and help you take advantage of tax benefits to reduce your tax bill. If you have been contacted by the IRS about a tax issue, a tax attorney can represent you in your interactions with the agency, ensure your rights are protected, and represent you in any related legal proceedings.
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