Income Tax Explanation Needed Before Income Tax Debate

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Yes, it’s time for some tax wonk news and information. With all of the talk about income tax cuts and tax policy, it is probably a good idea to review exactly what a “graduated” income tax is. Unfortunately, in an election year there seems to be a lot of people yelling and screaming about tax brackets who have no idea what it means. A graduated income tax means that everyone pays the same taxes on the same money. For example, single individual heads of households pay the same taxes for income up to $11, 950 (10%), the same taxes on incomes above that up to $45,550 (15%), the same on incomes above that up to $117,650 (25%), the same on incomes above that up to $190,550 (28%), the same on incomes above that up to $373,650 (33%), and the same on incomes above 373,651 (35%).

For example, if someone earns $45,550 a year and someone else earns $400,000 a year, they pay the same taxes on the first $45,550, which is $6,234 ($1,195 from 10% bracket+$5,040 from the 15% bracket). The person earning $400,000 in income now pays taxes on the amounts above $45,550 in the respective tax brackets, meaning an additional total $108,082 in income taxes ($18,025 from 25% bracket+$20,412 from 28% bracket+$60,423 from 33% bracket+$9,222 from the 35% bracket). The discussion of the top tax bracket reverting to 39.6% doesn’t mean that a person earning more than $373,651 pays a 39.6% tax on ALL of their income. It’s only on the income above $373,651 that gets the additional 3.6% tax. In this case, the person earning $400,000 a year pays a total of $114,316 in taxes with the 35% top tax rate, or would pay $115,528 in taxes with the 39.6% top tax rate, or an additional $1,212 in taxes.

So in the political debate, when you hear that someone wants to raise taxes on the highest wage earners, they are not talking about raising the TOTAL tax rate for the WHOLE income for people earning more than the $373,651 dollars. They are only talking about raising the taxes on the INCOME EARNED ABOVE $373,651.

On a related topic, there is also a lot of shouting about how raising taxes on income earned within the top tax bracket would hurt small businesses. Again, we have to keep in mind what is really being discussed. For small business owners, it would be taxes on the profits of their business, not the revenues. The argument is that businesses will not be able to hire employees, market their business, and grow. That’s just not true. If a business owner puts money into hiring new employees, then it is a business expense that offsets revenue. If a small business pays for advertising and marketing, the it also is a business expense that offsets revenue. In short, the tax on profits going up has nothing to do with the ability to hire employees. In fact, business owners may opt to hire employees to get their income below the highest tax bracket figuring that an investment in employees is better than giving more money to Uncle Sam.
Our country needs to have an honest debate about income taxes, and all other taxes for that matter. However, it should be an honest debate about what exactly is taxed and not on soundbites and who can yell half-truths the loudest.

By | 2017-05-20T16:43:41+00:00 October 14th, 2010|Company News|0 Comments