Federal Income Taxes - A simple concept with very
Our federal income tax system was implemented in 1913 simply as a way for the government to collect revenue. Since then, the laws have been expanded and revised dozens, if not hundreds of times. If history is any guide, you can expect the tax laws to continue to change and probably get even more complex.
While you probably do not want to spend the time and effort
to become an income tax expert, by understanding some of the
basics you can make better financial decisions and remove some
of the anxiety surrounding this financial fact of life.
Everyone's tax situation can be different and this article
covers only some of the basics. If your situation is complicated
or if you feel that you need an expert to help with your taxes,
do not hesitate to use the services of a professional.
The very, very basics
|A few more details|
|Income subject to tax - Most of the income you receive by working or by investing is taxable. Along with the items mentioned above, distributions from retirement plans (unless rolled into an IRA), lottery winnings, rental income, alimony and business income are taxable. However, interest from municipal bonds is usually not taxable. Dividends and long term capital gains (from investments held for more than a year) are taxed at a lower rate than other income.|
|Adjustments - If you are not eligible to participate in a company sponsored retirement plan or if your adjusted gross income is below a certain level, contributions to a regular IRA are deductible. The current limit on IRA contributions is $5,000. You may also be eligible to make adjustments for certain educational and business expenses.|
|Deductions - You are allowed to reduce your income subject to tax for certain types of expenses, including state and local income taxes, charitable contributions, mortgage interest and medical expenses in some cases. If you do not have these expenses or if your level of these expenses is low, the law provides a standard deduction. For 2011, the standard deduction for individuals is $5,800 and $11,600 for married couples filing joint returns. The personal exemption amount for 2011 is $3,700.|
|Tax rates - Our tax system has progressive marginal tax rates. That means that income at lower levels is taxed at lower rates and income at higher levels is taxed at higher rates. There are also different rates for those that file individual returns and those married couples filing joint returns.|
Dividends and long term capital gains (for
investments held for more than a year) also get
preferential treatment. For taxpayers in the 10%
and 15% brackets, qualifying dividends and long
term capital gains (assets held for more than a
year) will be taxed at 0%. For those in higher
tax brackets, the special tax rate is 15%. These
preferential rates are scheduled to expire at the
end of 2012.
|Filing your returns - You must file your income tax return by April 15th each year. There are some rules that enable you to get an extension of time, but most people file by the due date. Getting an extension does not allow you to delay paying any taxes you may owe. For most people, the taxes that are withheld from their paychecks cover what they owe or come very close. If you have a relatively large amount of investment or other income, you may want to consider making estimated payments throughout the year to avoid owing any penalties or interest.|
Being tax sensitive, not tax foolish
No one wants to pay any more tax than what they are legally required to pay. The expenses of owning a home can provide itemized deductions and contributions to your company retirement plan or IRA can also reduce your taxes. But be sure to not let the idea of saving taxes cause you to make financial mistakes.
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