History of taxation in the United States
The history of taxation in the United States begins with the colonial protest against British taxation policy in the 1760s, leading to the American Revolution. The independent nation collected taxes on imports, on glass windows. States and localities collected poll taxes on voters and property taxes on land and commercial buildings. In addition, there were state and federal excise taxes. State and federal inheritance taxes began after 1900, while the states began collecting sales taxes in the 1930s; the United States imposed income taxes during the Civil War and the 1890s. In 1913, the 16th Amendment was ratified. Taxes were low at the local and imperial levels throughout the colonial era; the issue that led to the Revolution was whether parliament had the right to impose taxes on the Americans when they were not represented in parliament. The Stamp Act of 1765 was the fourth Stamp Act to be passed by the Parliament of Great Britain and required all legal documents, commercial contracts, wills and playing cards in the American colonies to carry a tax stamp.
It was enacted on November 1, 1765, with the scope of defraying the cost of maintaining the military presence protecting the colonies. Americans rose up in strong protest, arguing in terms of "No Taxation without Representation". Boycotts forced Britain to repeal the stamp tax, while convincing many British leaders it was essential to tax the colonists on something in order to demonstrate the sovereignty of Parliament; the Townshend Revenue Act were two tax laws passed by Parliament in 1767. They placed a tax on common products imported into the American Colonies, such as lead, paint and tea. In contrast to the Stamp Act of 1765, the laws were not a direct tax that people paid daily, but a tax on imports, collected from the ship's captain when he unloaded the cargo; the Townshend Acts created three new admiralty courts to try Americans who ignored the laws. The tax on sugar and coffee; these were non-British exports. The Tea Act of 1773 received the royal assent on May 10, 1773; this act was a "drawback on tariffs" on tea.
The act was designed to undercut tea smugglers to the benefit of the East India Company. The Boston Tea Party was an act of protest by the American colonists against Great Britain for the Tea Act in which they dumped many chests of tea into Boston Harbor; the cuts to taxation on tea undermined American smugglers, who destroyed the tea in retaliation for its exemption from taxes. Britain reacted harshly, the conflict escalated to war in 1775. An assessment levied by the government upon a person at a fixed rate regardless of worth. Tariffs have played the economic history of the United States. Tariffs were the largest source of federal revenue from the 1790s to the eve of World War I, until it was surpassed by income taxes. Since the revenue from the tariff was considered essential and easy to collect at the major ports, it was agreed the nation should have a tariff for revenue purposes. Another role the tariff played was in the protection of local industry. From the 1790s to the present day, the tariff generated enormous political stresses.
These stresses lead to the Nullification crisis during the 19th century, the creation of the World Trade Organization. When Alexander Hamilton was the United States Secretary of the Treasury he issued the Report on Manufactures, which reasoned that applying tariffs in moderation, in addition to raising revenue to fund the federal government, would encourage domestic manufacturing and growth of the economy by applying the funds raised in part towards subsidies to manufacturers; the main purposes sought by Hamilton through the tariff were to: protect American infant industry for a short term until it could compete. This resulted in the passage of three tariffs by Congress, the Tariff of 1789, the Tariff of 1790, the Tariff of 1792 which progressively increased tariffs. Tariffs contributed to sectionalism between the South; the Tariff of 1824 increased tariffs in order to protect American industry in the face of cheaper imported commodities such as iron products and cotton textiles, agricultural goods from England.
This tariff was the first in which the sectional interests of the North and the South came into conflict because the South advocated lower tariffs in order to take advantage of tariff reciprocity from England and other countries that purchased raw agricultural materials from the South. The Tariff of 1828 known as the Tariff of Abominations, the Tariff of 1832 accelerated sectionalism between the North and the South. For a brief moment in 1832, South Carolina made vague threats to leave the Union over the tariff issue. In 1833, to ease North-South relations, Congress lowered the tariffs. In the 1850s, the South made subsequent reductions. In 1861, just prior to the Civil War, Congress enacted the Morrill Tariff, which applied high rates and inaugurated a period of continuous trade protection in the United States that lasted until the Underwood Tariff of 1913; the schedule of the Morrill Tariff and its two successor bills were retained long after the end of the Civil War. In 1921, Congress sought to protect local agriculture as opposed to industry by passin
IRS tax forms
Internal Revenue Service tax forms are forms used for taxpayers and tax-exempt organizations to report financial information to the Internal Revenue Service of the United States. They are used to report income, calculate taxes to be paid to the federal government, disclose other information as required by the Internal Revenue Code. There are over schedules. Other tax forms in the United States are filed with state and local governments; as of the 2018 tax year, Form 1040, U. S. Individual Income Tax Return, is the only form used for personal federal income tax returns filed with the IRS. In prior years, it had been one of three forms used for such returns; the first Form 1040 was published for use for the tax years 1913, 1914, 1915. For 1916, Form 1040 was converted to an annual form; the IRS mailed tax booklets to all households. As alternative delivery methods increased in popularity, the IRS sent fewer packets via mail. In 2009 this practice was discontinued. Income tax returns for individual calendar year taxpayers are due by April 15 of the next year, except when April 15 falls on a Saturday, Sunday, or a legal holiday.
In those circumstances, the returns are due on the next business day. An automatic extension until Oct. 15 to file Form 1040 can be obtained by filing Form 4868. Form 1040 is two abbreviated pages, not including attachments. Prior to the 2018 tax year, it had been two full pages, again not counting attachments, but following the passage of the Tax Cuts and Jobs Act of 2017, the IRS shortened both pages; the current first page collects information about the taxpayer and any dependents, includes the signature line. The current second page includes information on income items and adjustments to income, additionally calculates the allowable deductions and credits, tax due given the income figure, applies funds withheld from wages or estimated payments made towards the tax liability. Prior to 2018, information on income items and adjustments to income had been entered on the first page; the Presidential election campaign fund checkoff, which allows taxpayers to designate that the federal government give $3 of the tax it receives to the Presidential election campaign fund, is near the top of the first page on both pre- and post-2018 versions of Form 1040.
Form 1040 has 20 attachments, called "schedules", which may need to be filed depending on the taxpayer: Schedule A itemizes allowable deductions against income. Schedule B enumerates interest and/or dividend income, is required if either interest or dividends received during the tax year exceed $1,500 from all sources or if the filer had certain foreign accounts. Schedule C lists income and expenses related to self-employment, is used by sole proprietors. Schedule D is used to compute capital losses incurred during the tax year. NOTE: Along with Schedule D, Form 8949 and its Instructions may be required. Schedule E is used to report income and expenses arising from the rental of real property, royalties, or from pass-through entities. Schedule EIC is used to document a taxpayer's eligibility for the Earned Income Credit. Schedule F is used to report income and expenses related to farming. Schedule H is used to report taxes owed due to the employment of household help. Schedule J is used. Schedule L was used to figure an increased standard deduction in certain cases.
Schedule M was used to claim the Making Work Pay tax credit. Schedule R is used to calculate the Credit for the Disabled. Schedule SE is used to calculate the self-employment tax owed on income from self-employment. Schedule 8812 is used to calculate the Child Tax Credit. In 2014 there were two additions to Form 1040 due to the implementation of the Affordable Care Act – the premium tax credit and the individual mandate; the following schedules were introduced for the 2018 tax year:Schedule 1 is used to report most income from sources other than wages, dividends and Social Security, is used to calculate adjustments to income. Schedule 2 is used to report certain other types such as a child's unearned income. Schedule 3 is used to claim nonrefundable tax credits. Schedule 4 is used for calculation of certain types of taxes, among them self-employment tax and uncollected Social Security and Medicare taxes. Schedule 5 is used to add up tax payments, such as estimated tax payments or any payments made when an extension of time is filed.
Schedule 6 allows the taxpayer to appoint a third party to discuss the return with the IRS. Much of the information on the new numbered schedules had been included on Form 1040. In most situations, other Internal Revenue Service or Social Security Administration forms such as Form W-2 must be attached to the Form 1040, in addition to the Form 1040 schedules. There are over 100 other, specialized forms that may need to be completed along with Schedules and the Form 1040. Over the years, other "Short Forms" were used for short periods of time. For example, in the 1960s, they used an IBM Card on
State income tax
Most individual U. S. states collect a state income tax in addition to federal income tax. The two are separate entities; some local governments impose an income tax based on state income tax calculations. Forty-three states and many localities in the United States may impose an income tax on individuals. Forty-seven states and many localities impose a tax on the income of corporations. State income tax is imposed at a fixed or graduated rate on taxable income of individuals and certain estates and trusts; the rates vary by state. Taxable income conforms to federal taxable income in most states, with limited modifications; the states are prohibited from taxing income from other obligations. Most do not tax interest income from obligations of that state. Several states require different useful lives and methods be used by businesses in computing the deduction for depreciation. Many states allow some form of itemized deductions. States allow a variety of tax credits in computing tax; each state administers its own tax system.
Many states administer the tax return and collection process for localities within the state that impose income tax. State income tax is allowed as a deduction in computing federal income tax, subject to limitations for individuals. State tax rules vary widely; the tax rate may be fixed for all income levels and taxpayers of a certain type, or it may be graduated. Tax rates may differ for corporations. Most states conform to federal rules for determining: gross income, timing of recognition of income and deductions, most aspects of business deductions, characterization of business entities as either corporations, partnerships, or disregarded. Gross income includes all income earned or received from whatever source, with exceptions; the states are prohibited from taxing income from other obligations. Most states exempt income from bonds issued by that state or localities within the state, as well as some portion or all of Social Security benefits. Many states provide tax exemption for certain other types of income, which varies by state.
The states imposing an income tax uniformly allow reduction of gross income for cost of goods sold, though the computation of this amount may be subject to some modifications. Most states provide for modification of non-business deductions. All states taxing business income allow deduction for most business expenses. Many require that depreciation deductions be computed in manners different from at least some of those permitted for federal income tax purposes. For example, many states do not allow the additional first year depreciation deduction. Most states tax capital dividend income in the same manner as other investment income. In this respect and corporations not resident in the state are not required to pay any income tax to that state with respect to such income; some states have alternative measures of tax. These include analogs to the federal Alternative Minimum Tax in 14 states, as well as measures for corporations not based on income, such as capital stock taxes imposed by many states.
Income tax is self assessed, individual and corporate taxpayers in all states imposing an income tax must file tax returns in each year their income exceeds certain amounts determined by each state. Returns are required by partnerships doing business in the state. Many states require that a copy of the federal income tax return be attached to at least some types of state income tax returns; the time for filing returns varies by state and type of return, but for individuals in many states is the same as the federal deadline. Every state, including those with no income tax, has a state taxing authority with power to examine and adjust returns filed with it. Most tax authorities have appeals procedures for audits, all states permit taxpayers to go to court in disputes with the tax authorities. Procedures and deadlines vary by state. All states have a statute of limitations prohibiting the state from adjusting taxes beyond a certain period following filing returns. All states have tax collection mechanisms.
States with an income tax require employers to withhold state income tax on wages earned within the state. Some states have other withholding mechanisms with respect to partnerships. Most states require taxpayers to make quarterly payments of tax not expected to be satisfied by withholding tax. All pay tax when due. In addition, all states impose interest charges on late payments of tax, also on additional taxes due upon adjustment by the taxing authority. Forty-three states impose a tax on the income of individuals, sometimes referred to as personal income tax. State income tax rates vary from state to state; the states imposing an income tax on individuals tax all taxable income of residents. Such residents are allowed a credit for taxes paid to other states. Most states tax income of nonresidents earned within the state; such income includes wages for services within the state as well as income from a business with operations in the state. Where income is from multiple sources, formulary apportionment may be required for nonresidents.
Wages are apportioned based on the ratio days worked in the state to total days worked. All states. However, many states impose different limits on certain deductions depreciation of business assets. Most of the states allow non-business deductions in a manner similar to federal rules. Few allow a deduction for state income taxes
Federal Insurance Contributions Act tax
The Federal Insurance Contributions Act is a United States federal payroll contribution directed towards both employees and employers to fund Social Security and Medicare—federal programs that provide benefits for retirees, people with disabilities, children of deceased workers. Social security benefits include old-age and disability insurance; the amount that one pays in payroll taxes throughout one's working career is associated indirectly with the social security benefits annuity that one receives as a retiree. Kevin Hassett wrote that FICA is not a tax because its collection is directly tied to benefits that one is entitled to collect in life. FICA provides funds to the health care system for institutions that provide healthcare for workers that do not have health insurance and cannot afford healthcare treatment; the United States Supreme Court decided in Flemming v. Nestor that no one has an accrued property right to benefits from social security; the Federal Insurance Contributions Act is codified at Title 26, Subtitle C, Chapter 21 of the United States Code.
In 2004, the Center on Budget and Policy Priorities stated that three-quarters of taxpayers pay more in payroll taxes than they do in income taxes. The FICA tax is considered a regressive tax on income with no standard deduction or personal exemption deduction; the Social Security portion of the tax is imposed on the first $117,000 in 2014, $118,500 in 2015 and 2016, $127,200 in 2017, $128,400 in 2018. The FICA tax is not imposed on investment income such as interest, or dividends. Since 1990, the employee's share of the Social Security portion of the FICA tax has been 6.2% of gross compensation up to a limit that adjusts with inflation. The taxation limit in 2017 was $127,200 of gross compensation, resulting in a maximum Social Security tax for 2017 of $7,886.40. This limit, known as the Social Security Wage Base, goes up each year based on average national wages and, in general, at a faster rate than the Consumer Price Index; the employee's share of the Medicare portion of the tax is 1.45% of wages, with no limit on the amount of wages subject to the Medicare portion of the tax.
Because some payroll compensation may be subject to federal and state income tax withholding in addition to Social Security tax withholding and Medicare tax withholding, the Social Security and Medicare taxes account for only a portion of the total an employee pays. The employer is liable for 6.2% Social Security and 1.45% Medicare taxes, making the total Social Security tax 12.4% of wages and the total Medicare tax 2.9%. If a worker starts a new job halfway through the year and during that year has earned an amount exceeding the Social Security tax wage base limit with the old employer, the new employer is not allowed to stop withholding until the wage base limit has been earned with the new employer. There are some limited cases, such as a successor-predecessor employer transfer, in which the payments that have been withheld can be counted toward the year-to-date total. If a worker has overpaid toward Social Security by having more than one job or by having switched jobs during the year, that worker can file a request to have that overpayment counted as a credit for tax paid when he or she files a federal income tax return.
If the taxpayer is due a refund the FICA tax overpayment is refunded. A tax similar to the FICA tax is imposed on the earnings of self-employed individuals, such as independent contractors and members of a partnership; this tax is imposed not by the Federal Insurance Contributions Act but instead by the Self-Employment Contributions Act of 1954, codified as Chapter 2 of Subtitle A of the Internal Revenue Code, 26 U. S. C. § 1401 through 26 U. S. C. § 1403. Under the SE Tax Act, self-employed people are responsible for the entire percentage of 15.3%. It does this by adjusting for the fact that employees' 7.65% share of their SE tax is multiplied against a number that does not include the putative "employer's half" of the self-employment tax. In other words, it makes the calculation fair because employees do not get taxed on their employers' contribution of the second half of FICA, therefore self-employed people should not get taxed on the second half of the self-employment tax. Self-employed people deduct half of their self-employment tax from their gross income on the way to arriving at their adjusted gross income.
This levels the amount paid by self-employed persons in comparison to regular employees, who do not pay general income tax on their employers' contribution of the second half of FICA, just as they did not pay FICA tax on it either. Some student workers are exempt from FICA tax. Students enrolled at least half-time in a university and working part-time for the same university are exempted from FICA payroll taxes if and only if their relationship with the university is an educational one. In order to be exempt from FICA payroll taxes, a student's work must be "incident to" the pursuit of a course of study, rar
The FairTax is a proposal to reform the federal tax code of the United States. It would replace all federal income taxes, payroll taxes, gift taxes, estate taxes with a single broad national consumption tax on retail sales; the Fair Tax Act would apply a tax, once, at the point of purchase on all new goods and services for personal consumption. The proposal calls for a monthly payment to all family households of lawful U. S. residents as an advance rebate, or "prebate", of tax on purchases up to the poverty level. First introduced into the United States Congress in 1999, a number of congressional committees have heard testimony on the bill. In recent years, a tax reform movement has formed behind the FairTax proposal. Attention increased after talk radio personality Neal Boortz and Georgia Congressman John Linder published The FairTax Book in 2005 and additional visibility was gained in the 2008 presidential campaign; as defined in the proposed legislation, the tax rate is 23% for the first year.
This percentage is based on the total amount paid including the tax. This would be equivalent to a 30% traditional U. S. sales tax. The rate would automatically adjust annually based on federal receipts in the previous fiscal year. With the rebate taken into consideration, the FairTax would be progressive on consumption, but would be regressive on income at higher income levels. Opponents argue this would accordingly decrease the tax burden on high-income earners and increase it on the middle class. Supporters contend that the plan would tax wealth, increase purchasing power and decrease tax burdens by broadening the tax base; the plan's supporters state that a consumption tax would increase savings and investment, ease tax compliance and increase economic growth, increase incentives for international business to locate in the US and increase US competitiveness in international trade. The plan is intended to increase cost transparency for funding the federal government. Supporters believe it would increase civil liberties, benefit the environment and tax illegal activity and undocumented immigrants.
Opponents contend that a consumption tax of this size would be difficult to collect, would lead to pervasive tax evasion. They argue that the proposed sales tax rate would raise less revenue than the current tax system, leading to an increased budget deficit. Other concerns include the proposed repeal of the Sixteenth Amendment, removal of tax deduction incentives, transition effects on after-tax savings, incentives on credit use and the loss of tax advantages to state and local bonds; the legislation would remove the Internal Revenue Service, establish Excise Tax and Sales Tax bureaus in the Department of the Treasury. The states are granted the primary authority for the collection of sales tax revenues and the remittance of such revenues to the Treasury; the plan was created by Americans For Fair Taxation, an advocacy group formed to change the tax system. The group states that, together with economists, it developed the plan and the name "Fair Tax", based on interviews and focus groups of the general public.
The FairTax legislation has been introduced in the House by Georgia Republicans John Linder and Rob Woodall, while being introduced in the Senate by Georgia Republican Saxby Chambliss. Linder first introduced the Fair Tax Act on July 14, 1999, to the 106th United States Congress and a similar bill has been reintroduced in each subsequent session of Congress; the bill attracted a total of 56 House and Senate cosponsors in the 108th Congress, 61 in the 109th, 76 in the 110th, 70 in the 111th, 78 in the 112th, 83 in the 113th, 81 in the 114th, 46 in the 115th. Former Speaker of the House Dennis Hastert had cosponsored the bill in the 109th–110th Congress, but it has not received support from the Democratic leadership. Democratic Representative Collin Peterson of Minnesota and Democratic Senator Zell Miller of Georgia cosponsored and introduced the bill in the 108th Congress, but Peterson is no longer cosponsoring the bill and Miller has left the Senate. In the 109th–111th Congress, Representative Dan Boren has been the only Democrat to cosponsor the bill.
A number of congressional committees have heard testimony on the FairTax, but it has not moved from committee since its introduction in 1999. The legislation was discussed with President George W. Bush and his Secretary of the Treasury Henry M. Paulson. To become law, the bill will need to be included in a final version of tax legislation from the U. S. House Committee on Ways and Means, pass both the House and the Senate, be signed by the President. In 2005, President Bush established an advisory panel on tax reform that examined several national sales tax variants including aspects of the FairTax and noted several concerns; these included uncertainties as to the revenue that would be generated, difficulties of enforcement and administration, which made this type of tax undesirable to recommend in their final report. The panel did not examine the FairTax as proposed in the legislation; the FairTax received visibility in the 2008 presidential election on the issue of taxes and the IRS, with several candidates supporting the bill.
A poll in 2009 by Rasmussen Reports found that 43% of Americans would support a national sales tax replac
Taxing and Spending Clause
The Taxing and Spending Clause and the Uniformity Clause, Article I, Section 8, Clause 1 of the United States Constitution, grants the federal government of the United States its power of taxation. While authorizing Congress to levy taxes, this clause permits the levying of taxes for two purposes only: to pay the debts of the United States, to provide for the common defense and general welfare of the United States. Taken together, these purposes have traditionally been held to imply and to constitute the federal government's taxing and spending power; the Congress shall have Power To lay and collect Taxes, Duties and Excises, to pay the Debts and provide for the common Defence and general Welfare of the United States. Under the Articles, Congress was forced to rely on requisitions upon the governments of its member states. Without the power to independently raise its own revenues, the Articles left Congress vulnerable to the discretion of the several State governments—each State made its own decision as to whether it would pay the requisition or not.
Some states were not giving Congress the funds for which it asked by either paying only in part, or by altogether ignoring the request from Congress. Without the revenue to enforce its laws and treaties, or pay its debts, without an enforcement mechanism to compel the States to pay, the Confederation was rendered impotent and was in danger of falling apart; the Congress recognized this limitation and proposed amendments to the Articles in an effort to supersede it. However, nothing came of those proposals until the Philadelphia Convention; the power to tax is a concurrent power of the individual states. The taxation power has been perceived over time to be broad, but has on occasion, been curtailed by the courts. United States v. Butler stated that the clause granted "a substantive power... to appropriate", not subject to the limitations imposed by the other enumerated powers of Congress. The Congress shall have Power To lay and collect Taxes, Duties and Excises This power is considered by many to be essential to the effective administration of government.
As argued under the Articles, the lack of a power to tax renders government impotent. The power is used to raise revenues for the general support of government. But, Congress has employed the taxing power in uses other than for the raising of revenue, such as: regulatory taxation – taxing to regulate commerce. In 1922, the Supreme Court struck down a 1919 tax on child labor in Bailey v. Drexel Furniture Co. referred to as the "Child Labor Tax Case". The Court had held that Congress did not have the power to directly regulate labor, found the law at issue to be an attempt to indirectly accomplish the same end; this ruling appeared to have been reinforced in United States v. Butler, in which the Supreme Court of the United States ruled that the processing taxes instituted under the 1933 Agricultural Adjustment Act were an unconstitutional attempt to regulate state activity in violation of the Tenth Amendment. However, despite its outcome, Butler affirmed that Congress does have a broad power to tax, to expend revenues within its discretion.
With the power to tax implicitly comes the power to spend the revenues raised thereby in order to meet the objectives and goals of the government. To what extent this power ought to be utilized by the Congress has been the source of continued dispute and debate since the inception of the federal government, as will be explained below. However, interpretations recognizing an implicit power to spend arising from this clause have been questioned, with the Necessary and Proper Clause being suggested as the actual source of Congress's spending power; the Supreme Court has found that, in addition to the power to use taxes to punish disfavored conduct, Congress can use its power to spend to encourage favored conduct. In South Dakota v. Dole, the Court upheld a federal law which withheld highway funds from states that did not raise their legal drinking age to 21. Several Constitutional provisions address the spending authority of Congress; these include both requirements for the apportionment of direct taxes and the uniformity of indirect taxes, the origination of revenue bills within the House of Representatives, the disallowal of taxes on exports, the General Welfare requirement, the limitation on the release of funds from the treasury except as provided by law, the apportionment exemption of the Sixteenth Amendment.
Additionally and the legislatures of the various states are prohibited from conditioning the right to vote in federal elections on payment of a poll tax or other types of tax by the Twenty-fourth Amendment. The Constitution provides in the Origination Clause that all bills for raising revenue must originate in the House of Representatives; the idea underlying the clause is that Representatives, being the most numerous branch of Congress, most associated with the people, know best the economic conditio
Capital gains tax in the United States
In the United States of America and corporations pay U. S. federal income tax on the net total of all their capital gains. The tax rate depends on both the investor's tax bracket and the amount of time the investment was held. Short-term capital gains are taxed at the investor's ordinary income tax rate and are defined as investments held for a year or less before being sold. Long-term capital gains, on dispositions of assets held for more than one year, are taxed at a lower rate; the United States taxes short-term capital gains at the same rate. Long-term capital gains are taxed at lower rates shown in the table below. Separately, the tax on collectibles and certain small business stock is capped at 28%; the tax on unrecaptured Section 1250 gain — the portion of gains on depreciable real estate, or could have been claimed as depreciation — is capped at 25%. The income amounts were reset by the Tax Cuts and Jobs Act of 2017 for the 2018 tax year to equal the amount that would have been due under prior law.
They will be adjusted each year based on the Chained CPI measure of inflation. These income amounts are after deductions: There is another bracket, of income below that shown as $0 in the table, on which no tax is due. For 2018, this amount is at least the standard deduction, $12,000 for an individual return and $24,000 for a joint return, or more if the taxpayer has over that amount in itemized deductions. There may be taxes in addition to the tax rates shown in the above table. Taxpayers earning income above certain thresholds pay an additional 3.8% tax on all investment income. Therefore, the top federal tax rate on long-term capital gains is 23.8%. State and local taxes apply to capital gains. In a state whose tax is stated as a percentage of the federal tax liability, the percentage is easy to calculate; some states structure their taxes differently. In this case, the treatment of long-term and short-term gains does not correspond to the federal treatment. Capital gains do not push ordinary income into a higher income bracket.
The Capital Gains and Qualified Dividends Worksheet in the Form 1040 instructions specifies a calculation that treats both long-term capital gains and qualified dividends as though they were the last income received applies the preferential tax rate as shown in the above table. The capital gain, taxed is the excess of the sale price over the cost basis of the asset; the taxpayer reduces the sale price and increases the cost basis to reflect transaction costs such as brokerage fees, certain legal fees, the transaction tax on sales. In contrast, when a business is entitled to a depreciation deduction on an asset used in the business, it reduces the cost basis of that asset by that amount to zero; the reduction in basis occurs. If the business sells the asset for a gain, this part of the gain is called depreciation recapture; when selling certain real estate, it may be treated as capital gain. When selling equipment, depreciation recapture is taxed as ordinary income, not capital gain. Further, when selling some kinds of assets, none of the gain qualifies as capital gain.
If a business develops and sells properties, gains are taxed as business income rather than investment income. The Fifth Circuit Court of Appeals, in Byram v. United States, set out criteria for making this decision and determining whether income qualifies for treatment as a capital gain. Under the stepped-up basis rule, for an individual who inherits a capital asset, the cost basis is "stepped up" to its fair market value of the property at the time of the inheritance; when sold, the capital gain or loss is only the difference in value from this stepped-up basis. Increase in value that occurred before the inheritance is never taxed. If a taxpayer realizes both capital gains and capital losses in the same year, the losses offset the gains; the amount remaining after offsetting is the net gain or net loss used in the calculation of taxable gains. For individuals, a net loss can be claimed as a tax deduction against ordinary income, up to $3,000 per year. Any remaining net loss can be applied against gains in future years.
However, losses from the sale of personal property, including a residence, do not qualify for this treatment. Corporations with net losses of any size can re-file their tax forms for the previous three years and use the losses to offset gains reported in those years; this results in a refund of capital gains taxes paid previously. After the carryback, a corporation can carry any unused portion of the loss forward for five years to offset future gains. Corporations may declare that a payment to shareholders is a return of capital rather than a dividend. Dividends are taxable in the year that they are paid, while returns of capital work by decreasing the cost basis by the amount of the payment, thus increasing the shareholder's eventual capital gain. Although most qualified dividends receive the same favorable tax treatment as long-term capital gains, the shareholder can defer taxation of a return of capital indefinitely by declining to sell the stock. From 1913 to 1921, capital gains were taxed at ordinary r