Simplified Explanation: As explained before, taxes are money that is collected, by the government, from its citizens and their businesses, to pay for their operations. These are mandated payments - based on your income, property, or what you purchased - of which funds go to the operation of federal, state, county, and city government bodies. The money is used for infrastructure, salaries of their workers, and anything else they decide to use the money for - literally anything they...
Simplified Explanation: As explained before, taxes are money that is collected, by the government, from its citizens and their businesses, to pay for their operations. These are mandated payments - based on your income, property, or what you purchased - of which funds go to the operation of federal, state, county, and city government bodies. The money is used for infrastructure, salaries of their workers, and anything else they decide to use the money for - literally anything they decide.
Real Life: The first thing you need to know is who the IRS is. The Internal Revenue Service (IRS) is a federal government department that is in charge of collecting taxes throughout the year, reviewing your annual tax return, and auditing you if they think you are hiding something. You cannot hide from them forever.
The first piece of advice, regarding the IRS (and yes, I am about to tell you to spend money), is to pay your taxes every year. The IRS does not care about your hardships; they want to know you are paying your “fair share.” They have created extensions for when something happens, and forgiveness plans if you get into trouble with them, but you will pay your taxes.
At the same time, you shouldn’t feel obligated to pay more than you are supposed to pay. You should strive to pay as little as possible (while still paying your taxes), starting with your W-9 form. This is the form that tells your employer how much to take from your pay and withhold for federal income tax. If you are the head of your household, they lower your withholdings; if you have children, you pay less, and so on. You are taking less out from your paycheck because they believe you will pay less in your annual tax return. The best way to figure out if you are overpaying is if you receive a tax return at the beginning of the next year. If the IRS writes you a check, it means you sent them too much.
Your taxes are paid at the beginning of each year for the previous year. You pay between January 1st and April 15th, of each year, based on the money you paid to the government the previous year (or should have paid), and any deductions you should have taken out. We will go over each of these. If you own your own business then you pay quarterly, for if you waited until the end of the year, you may have run out of money to pay the taxes.
History of Taxes: Did you know that it used to be unconstitutional to charge a federal income tax? That’s right! Back when the Constitution was written, there was not to be a tax on the people, but instead, the government would claim money in other ways, including import taxes for goods coming into the country. Before the Civil War, the Federal Government found other ways of funding itself. During the war, though, there was a massive amount of debt accumulated, and President Abraham Lincoln decided he needed to pay the debt that was accumulating, and wanted everyone to chip in. Almost a decade after the war, and after the government was flush with taxes coming in, it was repealed. People were about to go back to normal (not paying a tax), but the U.S. Congress got involved again, and in 1894, they enacted a law, demanding the citizens begin paying for the everyday expenses of the government - including their salaries and benefits, once again - with a flat tax. With politics, this began to evolve to what we have today, which basically states, depending on how much you make, you must pay a certain amount.
Now taxes for United States citizens are based on how much money they make, and where they live. The greatest tax increase was during Franklin Roosevelt’s presidency, and the greatest cut was during the years of President Ronald Reagan, (unless you count the different types of deductibles, meaning ways of using your money in a positive way that can lower the amount you own the federal government - and that came from President Donald Trump). Here is the history of taxes, according to each President, who now has the obligation to collect the right amount of taxes from the people.
Abraham Lincoln (Republican) (1861-1865): Revenue Act - 3% tax on income over $800 (paid off expenses and debt from the U.S. Civil War). This is when the Internal Revenue Service (IRS) was created - July 1, 1862. Repealed in 1871.
Grover Cleveland (Democrat) (1885-1889, 1893-1897): In 1894, Congress tried to enact a flat rate income tax, and the U.S. Supreme Court ruled it unconstitutional, because there were varying populations in each state.
Woodrow Wilson (Democrat) (1913-1921) – The IRS was reestablished and Form 1040 was designed. The 16th Amendment to the Constitution was enacted, adding 1% tax on income over $3,000, and 6% on income over $500,000. In 1916, he increased it to 2%, to pay for World War I. It was increased again in 1917, to 2% for income over $1,000, and the surtax increased to 63%. In 1920, government revenues were at $6.6 billion, and fell to $1.9 billion during the Great Depression.
Herbert Hoover (Republican) (1929-1933) – Enacted the Revenue Act of 1932 - the largest tax reform of its time. This increased income taxes to 4% over $1,000, up to 63% for the highest earners. This caused the highest earners to find better tax strategies. Corporate taxes increased to 15%.
Franklin Roosevelt (Democrat) (1933-1945) – Roosevelt desired to tax the rich even more, to attack the debt caused by his New Deal plan. In 1944, he raised the top margin to the highest point ever, 94%, for the highest earners, and claimed it was for World War II. In 1945, revenues increased to $45 billion (from $9 billion in 1941). This tax increase affected the lower income earners, as well. Most of this increase was used to pay Social Security, established in 1935 yet the benefit was not fully funded until 1945, with another tax increase.
Harry Truman (Democrat) (1945-1953) – The U.S. Congress cut rates in 1948, but two years later, Truman raised them again for the Korean War. By now, the lowest earners paid 20%, and the highest paid 91%.
John F. Kennedy (Democrat) (1961-1963)– Though he was assassinated before enacting the Revenue Act of 1964, this act was to lower taxes and increase job growth. He was murdered before it could be passed.
Lyndon B. Johnson (Democrat) (1963-1969) – The Revenue Act of 1964, passed by Congress and Johnson, cut tax rates to 70%, and the standard deduction was set at $300. In 1965, Medicare was enacted and created a larger deficit; so, lowering taxes was not an option without dramatically increasing deficits.
Ronald Reagan (Republican) (1981-1989) – The Economic Recovery Tax Act was passed by the President and Congress, in 1981, greatly reducing the top tax rate, from 70% to 50%, and indexed tax brackets for inflation. He pushed for savings and investments to stimulate the economy. Again, in 1986, he created the Tax Reform Act to cut taxes, and this time simplify the tax code. The top rate was lowered to 28%, and the standard deduction and personal exemptions were increased, which benefited the lower-income earners.
George H.W. Bush (Republican) (1989 – 1993) – The Omnibus Budget Reconciliation Act of 1990 raised the top tax rate to 31%, to reduce the federal deficit (yet, never did).
Bill Clinton (Democrat) (1993-2001) – He increased taxes, including the top tax bracket to 39.6%, in 1993. He also decreased deductions in order to pay for Social Security benefits. He enacted the Taxpayer Relief Act in 1997, introducing more tax breaks for families with dependent children and educational costs. Beyond that, he did lower the capital gains tax to 10-15%, to push people to invest, and created the Roth IRA.
George W. Bush (Republican) (2001-2009) – The Economic Growth and Tax Relief Reconciliation Act of 2001 lowered tax rates and dropped the top tax rate to 35%. It created a 10% tax increase on the first $6,000 of income earned - $12,000 for a joint return (for those married). The Jobs and Growth Tax Reconciliation Act of 2003 cut taxes again, and lowered capital gains taxes.
Barack Obama (Democrat) (2009-2017) – The Obama Affordable Care Act of 2010 was enacted with a penalty for not buying Health Insurance, but then was rewritten as a “tax” by U.S. Supreme Court Justice John Roberts. The Obama American Taxpayer Relief Act of 2012 increased tax rates, with the top bracket increasing again, to 39.6%. The Net Investment Income Tax was imposed to create a 3.8% surtax, intended to tax portfolio income.
Donald Trump (Republican) (2017-2020) – The Tax Cuts and Jobs Act of 2017 brought dramatic change. It increased deduction for business and personal expenses, to promote spending; the standard deduction nearly doubled; some tax deductions were eliminated for big businesses and high earners; tax loopholes were closed; individual tax rates were lowered (highest earners lowered to 37%); and corporate tax rates dropped to a flat 21%. The Sunset Provision was enacted by Congress to revert taxes to prior law in 2026.
As you can see from the list above, taxes in the United States have fluctuated with almost all presidents since the Federal Income Tax was introduced, during the Civil War, by President Abraham Lincoln. With these new taxes the government was able to pay for an expensive war, and with ever president afterwards, they have used this as a political instrument to stir up excitement.
Currently – Taxes are a very political thing. Conservatives, Libertarians, and the Republican Party want less government control over their lives, and so, want the government to take less of their taxes. Democrats, Green Party, Progressives, Liberals, Socialists, and Communists want more government, in different ways, and so, need to tax the people more, to pay for these programs.
In the news today (3/20/2021) we are looking at the government charging more taxes on us, including:
- Wealth Tax: A one time or annual fee charge, based on how much you own. This would be for the wealthy at whatever level of ownership the government decides. This is a tax used in Europe with very disappointing results. Most of the time, GDP for the country decreased and many of the wealthy simply moved their wealth to another country. This tax would also be placed on U.S. millionaires and billionaires, but not foreign investors who would move in, buying up the loss of U.S. wealth. These bills were written and promoted by Senators Elizabeth Warren and Bernie Sanders (Progressive Democrats).
- Value Added Tax: Every time you buy a product, you pay a sales tax. This normally is regulated by State, County, and Local governments. A VAT Tax is where the federal government puts together their own sales tax, and adds that to every product you buy. So, when you are paying 10% on goods you buy right now, you would pay an additional 10% to the federal government.
- President Biden’s plan: His plan is a repeat from the past 30 years of taxes: increase the tax rates for those making over $200,000 a year, and remove many of President Trump’s enacted tax deductions (ways of using your money in good ways to decrease your taxes, including donations to nonprofits).
- Gas and Fossil-Fuel Taxes: With the coming possibility of a Green New Deal, taxes on all fossil fuels will increase, to penalize the use of fossil fuels, and pay for the Green New Deal and the money being spent to pay the United Nations, based on the Paris Climate Accords.
How to Pay Less Towards Taxes - It is always important to pay the least amount legally possible to the government. You are only obligated to pay the minimal amount. Here are a few ways to keep your money:
W-4 Form Deductions – When you sign all your new employee paperwork, you will have one form, the W-4, which will ask you questions to estimate how much you need to pay in Federal Income Tax. Pick every deduction point possible. Your company's HR Manager will figure out how much you will have to pay from that number. The more deductions you have, the less the government will withdraw from your pay.
Increase your employee benefits – All fringe benefits, provided by your employer, are tax deductible. The money you pay for your benefits (health insurance, life insurance, retirement) is subtracted from your salary; that reduced payout is taxed. The more you pay into your benefits, including your retirement savings account, the less you pay to the government.
Expenses Reimbursed as an Accountable Plan – If you pay for business with your own personal money, make sure it is documented; have them expense it as a normal expense, and not in payroll. This will decrease your pay, and so, reduce your taxes.
Again, you are under no obligation to pay higher taxes than you are legally and lawfully required to. That means it is your duty to yourself to find ways to decrease your pay and taxes, so that you take more of the benefits of the money you worked so hard to earn.
Maximize your IRA and HSA Contributions – You can contribute to both of these tax free accounts for retirement (Individual Retirement Account – IRA, maximum contribution is $6,000 in 2021) and Health (Health Savings Account – HSA, maximum contribution is $3,600 in 2021) through your employer - with each paycheck, or by setting up your own account and contributing yearly.
Rethink your filing status (Married vs. Single): When you are married, you can file your taxes jointly or individually. There are benefits to each, so check which one will allow for a larger tax return collectively.
Child Tax Credit: For each child you have, you can write off a certain amount of taxes. This changes constantly, with new administrations, and should be looked up at www.debt-freemillionaire.com/taxfree/.
Standard vs Itemized Deductions: There are many deductions you can list (itemize) on your taxes, to pay less taxes, including donations, medical expenses, etc. You may take all the deductions that work in your favor, or take the Standard Deduction - a specific amount of money set by the government - whichever is more. These are good things the government recognizes as ways to reduce your taxes.
Record charitable donations: Every time you donate to a 501(c)(3) non-profit organization, you can deduct that amount from your taxes. You want to keep good records of these for 7 years, so, if you are audited by the IRS, you have full documentation to justify these reductions in taxes. You can list your charitable miles, donations of cash or materials, and anything that financially supports non-profits.
Claim your children, friend, or relatives you have been supporting: all those you support financially can be claimed as a dependent of yours (especially if they aren’t making money and paying taxes - you get a deduction for them to pay for their care).
Track all your medical expenses: If you have a certain amount of medical expenses, these may be deducted from your tax bill. Keep track of: miles, bills, and medical expenses, including medication.
Deduct your state and local sales taxes: When you pay your state and local sales taxes, you can write this off as a deduction because you are not required to pay taxes twice on your money.
Student Loan interest: If you attended school and paid for it with student loans, you can write off a small portion of these fees and interest towards your student loans.
Child and dependent care: If you are paying for the care of children, friends, or relatives during the day, or as a resident in those facilities, you can write these expenses off of your taxes.
Earned Income Tax Credit: These help low- to middle-income workers get a tax break. If you qualify, you can use the credit to reduce the taxes you owe and possibly increase your refund.
State Income Tax: If you are taxed on your money by the state, you can reduce your taxes owed by reporting to the federal government the taxes paid to the state? You get a federal tax break because of income taxes paid to the state?
Reinvest your investment dividends: If you receive a dividend from your stocks and you withdraw that amount or accept it in cash, you will be taxed on it; but if you reinvest it into the stock, it’s tax free.
Write off mortgage interest payments: Your mortgage interest (not Principle) payment is tax deductible. This is an extra incentive for people to become homeowners. Hint: The more payments you make in a year the more you can deduct. Tax experts advise clients to pay your last payment of the year on December 31st, to claim your tax credit; but remember, you can’t claim that amount the following year.
Start a business and write off your losses (K-1 form): This can be your greatest deduction over a few years. If you start a business, most see a loss of money for the first few years (after salary). All that loss is distributed among owners and deducted in your taxes. This also means that your investors get these same deductions, as well, if they own part of the company. The government supports the startup of new businesses - especially if they create jobs - and wants you to be able to deduct losses from your income (less income to tax and pay).
Energy Savings and Green Initiatives - When you buy green technology, such as solar panels, tankless hot water heaters, insulation, or energy efficient measures for your house (or even your business), you can write these off on your taxes. Find a complete list (including local incentives) online, according to your state.
Take advantage of government programs: The government creates programs to help people financially during hard times; this includes COVID and the financial struggle it pushed most Americans into.
Become Tax Refund Smart: Learn other methods, especially local deductions, that will help you reduce your tax rate; this is how the rich pay less in taxes, and you can, too. Don’t just allow the government to take more from you than you are legally obligated to pay. At the same time, don’t write off things that are not tax deductible, because when the IRS finds out, they will come after you for the difference, and a punitive (punishment) fee on top of that difference (and as they search your records, they won’t make it easy for you).
* Everything in this chapter is for educational purposes and should not be taken as financial advice. Talk to your accountant and/or tax preparer for current and local deductions that are allowed.
Also read: https://taxfoundation.org/data/all/federal/summary-latest-federal-income-tax-data-2023-update/ https://taxedright.com/2024-tax-brackets/ https://engaging-data.com/tax-brackets/ https://wbtphdjd.medium.com/where-90-percent-tax-rate-really-came-from-e3834f0e56b https://www.visualizingeconomics.com/blog/2011/04/14/top-marginal-tax-rates-1916-2010
