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Chapter 1

Types of Taxes and the Jurisdictions that Use Them

McGraw-Hill/Irwin

McGraw-Hill/Irwin

2007 The McGraw-Hill Companies, Inc., All Rights Reserved.

Copyright 2011 by The McGraw-Hill Companies, Inc. All rights reserved.

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Objectives
Define tax, taxpayer, incidence, jurisdiction Express the relationship between tax base, rate, and revenue as a formula Describe the taxes levied by local, state, and federal government Explain why different jurisdictions compute for revenues from the same taxpayer Identify the reasons why governments modify their tax systems Describe the three primary sources of federal tax law

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Definitions
Tax = compulsory payment to support the cost of government
contrast with fine/penalty or user fee

Taxpayer = any person or organization that pays tax (includes individuals and corporations)
Incidence = ultimate economic burden of a tax
May not fall on the person or organization who pays tax

Jurisdiction = right of a government to tax

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Tax Formula
Tax = rate base Rate can be:
Flat (single rate applies to entire tax base) Graduated (multiple rates apply to portions (brackets) of tax base)

Base is an item, occurrence, transaction, or activity on which a tax is levied (expressed in monetary terms) Revenue is total tax collected by the government
Increased by increasing either rate or base

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Two Ways to Characterize Taxes

Frequency with which tax occurs
Transaction (event) based taxes, such as:
Sales or excise tax Estate or gift tax

Activity based tax, such as:

Income tax

Link to specific government expenditures

Earmarked to finance designated projects, such as:
Social Security and Medicare EPAs environment excise taxes

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State and Local Taxes

Property (ad valorem taxes)
Real property tax
Abatements often granted to entice new business

Personal property tax

Household tangibles (vehicles) Business tangibles Intangibles (securities)

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State and Local Taxes

Sales/use
Broad-based but typically excludes necessities (food, drugs) Personal responsibility for use tax

Excise tax
Imposed on retail sale of specific goods or services
Cigarettes and gasoline Hotel and motel accommodations

Income tax
Personal Corporate

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Federal Taxes
Individual income tax Corporate income tax Employment taxes
Social Security Medicare

Unemployment taxes Excise taxes Transfer taxes

Gift Estate Generation-skipping

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History of Federal Income Tax

Pre-1861: tariffs, excise and property taxes First income tax enacted to pay for Civil War in 1861, expired in 1871 First permanent income tax passed in 1894, but struck down by Supreme Court as unconstitutional Sixteenth Amendment ratified in 1913 made the income tax constitutional Internal Revenue Code was enacted in 1939 and subsequently revised in 1954 and 1986

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Foreign Taxes
Income taxes similar to U.S. Value added tax (VAT)
VAT is similar to a sales tax on the incremental value added by a business at each stage of the production process Business can claim a credit for VAT paid to a supplier with proof of payment

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Jurisdictional Competition
Increasing the tax rate or expanding the definition of the tax base can cause taxpayers to flee the tax jurisdiction Current trends in increasing the tax base
Annexation to expand city property Gambling/lotteries Sales tax expansion

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Sales Tax Expansion

The Supreme Court case of Quill Corporation vs. North Dakota held that mail-order companies need not collect sales tax from customers located in states where the company did not have physical presence
What are the implications for the internet?

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Sources of Tax Law

Statutory authority is the Internal Revenue Code Administrative authority
Treasury regulations IRS Revenue Rulings and Revenue Procedures

Federal judicial authority

Supreme Court Appellate courts Trial courts
Tax Court District Court Court of Federal Claims

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