1

Volume

THE TAX COLLEGE

Educational Series

Federal Income
Tax Course 2015

EDUCATIONAL SERIES - VOLUME 1

Federal Income Tax Course 2015

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H O W TO U S E O U R I N C O M E TA X C O U R S E
QUESTIONS, COMMENTS, AND NOTES:
Our course is intentionally designed with a wide left margin to allow space for your
questions, comments, and notes.
ICON AND COLOR KEY:
The following icon and color coding is used in our Side Bars and Tips:
ICON

TYPE

DESCRIPTION

TAX QUOTE

Tax Quotes appear in boxes with a lavender background.

SIDE BAR

Side Bars appear in boxes with a light yellow background.

TAX TIP
TAX PLANNING
TIP
TAX PRACTICE
TIP

Tax Tips appear in boxes with a light blue background.

Tax & Financial Planning Tips appear in boxes with a light
green background.
Tax Practice Tips appear in boxes with a light grey
background.

HOW TO COMPLETE YOUR STUDIES QUICKLY

If you are taking our course because you need to obtain your IRS Continuing Education
hours quickly to renew your PTIN; or you are starting a job at a tax preparation office and
you need to learn the material quickly before the tax season starts; you can skip reading the
Tax Quotes, Sidebars, Tax Tips, Tax Planning Tips and Tax Practice Tips. The information
discussed in them is not covered on the quizzes or final exam. You can return next summer
when you have more time and read them at that time.
However, if you are not in a hurry we strongly recommend that you read all of the above as
they will enhance your knowledge of the tax laws and expand your understanding of the
topics covered in this course.

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KEY TAX NUMBERS 2014

Adoption Credit
Child with special needs
Other adoptions, qualified expenses
Alternative Minimum Tax
Exemptions
Married Filing Jointly
Married Filing Separately
Single or Head of Household
Tax Rates
First $182,500 ($91,250 MFS) of AMTI
Over $182,500 of AMTI
Capital Gains (Long Term) and Qualifying Dividends Tax Rates
10% or 15% Tax Bracket

$13,190
Up to $13,190

$82,100
$41,050
$52,800
26%
28%
0%
15%
20%
25%
28%

More Than 15% But Less Than 39.6% Tax Bracket

39.6% Tax Bracket

Un-recaptured Section 1250 Gains
Capital Gains on Collectibles
Domestic Production Activities Deduction

9%

Earned Income Tax Credit

Single, Head of Household, Qualifying Widow Maximum Earnings
No Children
$14,590
One Child
$38,511
Two Children
$43,756
Three Children
$46,997
Married Filing Jointly
No Children
$20,020
One Child
$43,941
Two Children
$49,186
Three Children
$52,427
Education
American Opportunity Credit
Coverdell ESA
Lifetime Learning Credit
Student Loan Interest Deduction
Tuition and Fees Deduction Tier 1
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Maximum EITC
$496
$3,305
$5,460
$6,143
$496
$3,305
$5,460
$6,143
$2,500
$2,000
$2,000
$2,500
$4,000

Tuition and Fees Deduction Tier 2

Elective Deferrals Limits
401(k), 403(b), 457 plans
Salary Reduction SEP
Additional Contribution Age 50 or Older
SIMPLE IRA
Additional Contribution Age 50 or Older
Employer Provided Transportation Exclusion
Transit Passes and Commuter Vehicles
Qualified Parking
Qualified Bicycle Commuting
Exemptions
Personal and Dependent
Estate
Simple Trust
Complex Trust
Exemption and Itemized Deduction Phase-out's (beginning at)
Single
Married Filing Jointly or Qualifying Widow(er)
Married Filing Separately
Head of Household
Filing Requirements

$2,000
$17,500
$17,500
$5,500
$12,000
$2,500
$250 per month
$250 per month
$20 per month
$3,950
$600
$300
$100
$254,200
$305,050
$152,525
$279,650

THEN you
should file a
AND at the end of 2014
return if your
you were
gross income
was at least
Under 65
$10,150
65 or older
$11,700
Under 65 (both spouses)
$20,300
65 or older (one spouse)
$21,500
65 or older (both
$22,700
spouses)
Any age
$3,950
Under 65
$13,050
65 or older
$14,600
Under 65
$16,350
65 or older
$17,550

IF you're filing status is

Single

Married Filing Jointly

Married Filing Separately
Head of Household
Qualifying Widow(er)
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Foreign Earned Income Exclusion

$99,200

Gift Tax
Exclusion
Spouse
Non-U.S. Citizen Spouse
Health Savings Accounts (HSAs)
Maximum Annual Contribution Limits
Self-Only Coverage
Family Coverage
Additional Over Age 55
Minimum Deductible
Self-Only Coverage
Family Coverage
Maximum Out of Pocket
Self-Only Coverage
Family Coverage
IRA Contributions
Traditional
Age 50 or Older
Roth
Age 50 or Older
Kiddie Tax
Age Limit
Unearned Income Limitation
Long Term Care Premiums (deductible)
Age 40 or Under
Age 41 to 50
Age 51 to 60
Age 61 to 70
Age 71 and Over
Medical Savings Accounts (MSAs)
Premium for High Deductible
Self Coverage
Family Coverage
Maximum Out of Pocket
Self Coverage
Family Coverage
Mileage Rates

$14,000
Unlimited
$145,000

$3,300
$6,550
$1,000
$1,250
$2,500
$6,350
$12,700
$5,500
$6,500
$5,500
$6,500
18
$2,000
$370
$700
$1,400
$3,720
$4,660

$2,200-$3,250
$4,350-$6,550
$4,350
$8,000
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Business
Medical and Moving
Charitable

$0.56
$0.235
$0.14

Section 179 Expense

$500,000

Social Security Payback

At full retirement age or older

No limit on earnings
$1 of benefits will be deducted for each $2
earned above $15,480
$1 of benefits will be deducted for each $3
earned above $41,400

Under full retirement age

In the year full retirement is reached
Social Security Wage Base
Social Security Wage Base
Maximum Social Security Tax
Standard Deductions

$117,000
$7,254
Base Amount
$6,200
$12,400
$6,200
$9,100
$12,400
$1,000 or Earned
Income + $350

Single
Married Filing Jointly
Married Filing Separately
Head of Household
Qualifying Widow(er)
Dependent of Another

vi

Add for Blind or > 65

$1,550
$1,200
$1,200
$1,550
$1,200
$1,200 or $1,550 if
Single or HOH

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Lesson

1
Lesson 1 - Our Federal Tax System
In this lesson you'll learn about the history of our federal tax system and how
it works today. The following topics are discussed in this lesson:
The Revolutionary War
Period
The Post-Revolutionary War
Period
The Civil War Period
The Post-Civil War Period
The 16th Amendment
The 1920s
The 1930s
The Social Security Act
The World War II Period

The Post-World War II Period

The 1960s
Medicare
The Economic Recovery Tax
Act of 1981
The Tax Reform Act of 1986
IRSRRA of 1998
EGTRRA of 2001
JGTRRA of 2003
The Modern Income Tax
What are the different types
of taxes?

he federal tax system in the United States has been marked by

significant changes over the years in response to the ever changing
role of the government. While the law itself is complex, the concept is
relatively simple. Income from all sources is taxed, unless specifically
exempted by the law.
The types and amounts of tax collected are completely different than they
were 200 years ago. Some of these changes are traceable to specific events,
such as a war, or the passage of the 16th Amendment which gave Congress
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the power to levy a tax on personal income. Other changes were more
gradual, responding to changes in society, the economy, and in the role of
the federal government. For most of our country's history, individuals rarely
had any contact with the federal government as most of the government's
tax revenues were derived from excise taxes, tariffs, and customs duties.
In 1765, the English Parliament needing funds to pay for its war against
France, passed the Stamp Act, the first tax imposed directly on the American
colonies. Colonists lacked representation in the English Parliament. This led
to the rallying cry of the American Revolution "taxation without
representation is tyranny" and established a persistent wariness regarding
taxation.
On December 16, 1773 a group of Americans disguised as Indians board a
ship and throw 342 chests filled with tea into Boston Harbor to protest
Englands tax on tea. The Boston Tea Party is perhaps the most famous
event in U.S. tax history.
Before the Revolutionary War, the federal government had only a limited
need for revenue, while each of the colonies had greater responsibilities and
revenue needs, which were met with different types of taxes. The south
taxed primarily imports and exports, the middle colonies imposed a
property tax and a "head" or poll tax levied on each adult male, and the
northern colonies taxed real estate, had excises taxes, and taxes based on
occupation.

The Revolutionary War Period

To pay the debts of the Revolutionary War, Congress levied excise taxes on
distilled spirits, tobacco and snuff, refined sugar, carriages, property sold at
auctions, and various legal documents.
The Articles of Confederation of 1781 reflected the American fear of a
strong federal government. The federal government had few responsibilities
and no tax. It relied solely on donations from the States. When the
Constitution was passed in 1789, it was recognized that no government
could function if it relied entirely on other governments for its resources.
Therefore, the federal government was granted the authority to raise taxes.
Article I, Section 8, Clause 1 of the U.S. Constitution states Congress shall
have the power to impose "Taxes, Duties, Imposts and Excises,". However
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Article I, Section 9 requires that, "No Capitation, or other direct, tax shall be
laid, unless in Proportion to the Census or enumeration herein before
directed to be taken." Therefore, any taxes imposed had to be uniform
throughout the United States. The Constitution limited Congress' ability to
impose direct taxes, by requiring it to distribute taxes in proportion to each
state's population.
The table below shows how long it took the average American to prepare
his or her tax return last year.

Average Time Burden (Hours)

Major
Form Filed PercentForm Compor Type of age of Total Record
Tax
letion &
All
Taxpayer Returns Time Keeping
Planning
Submission Other
All
Taxpayers 100%
13
6
2
4
1

Average
Cost
$200

Major forms filed:

1040

69%

16

$260

1040A

19%

$80

1040EZ

12%

$40

Type of Taxpayer:
Nonbusiness *
68%

$110

Business *

24

13

$410

32%

* Taxpayers are considered business filers if they file one or more of the following with
Form 1040: Schedule C, C-EZ, E, F, Form 2106 or 2106-EZ. Taxpayers are considered
nonbusiness filers if they did not file any of those schedules or forms with Form 1040 or
if they file Form 1040A or 1040EZ.
Source: Internal Revenue Service
Table: Time it takes to prepare return

Tax Quote

"It would be thought a hard government that should tax its people one
tenth part."
Benjamin Franklin (1706-1790) Founding Father of the United States

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The Post-Revolutionary War Period

After the Revolutionary War the citizens had representation, but many still
opposed taxes. From 1791 to 1802, the federal government was supported
by taxes on distilled spirits, carriages, refined sugar, tobacco and snuff,
property sold at auction, corporate bonds, and slaves. In 1794, farmers in
Pennsylvania opposed the tax on whiskey, forcing President Washington to
send federal troops to suppress the Whiskey Rebellion, and establishing the
important precedent that the federal government was determined to
enforce its revenue laws. On the other hand, The Whiskey Rebellion also
established that the resistance to taxes that led to the Declaration of
Independence and the Revolutionary War did not evaporate with the new
federal government.
To raise money for the War of 1812, Congress imposed additional excise
taxes, sales taxes on gold, silverware, jewelry, and watches, and raised
certain customs duties. Congress also raised money by issuing Treasury
notes. In 1817 Congress did away with those taxes, relying solely on tariffs
on imported goods, and for the next 44 years the federal government
collected no taxes.

Tax Quote

"Our Constitution is in actual operation; everything appears to promise that

it will last; but in this world nothing is certain but death and taxes."
Benjamin Franklin (1706-1790) Founding Father of the United States

The Civil War Period

The Revenue Act of 1861, the first U.S. personal income tax, was imposed on
August 5, 1861. This tax on personal income was a new direction for a
federal tax system. It was amended on July 1, 1862. It taxed 3% of all
incomes from $600 to $10,000 per year. The standard deduction was $600.
Individuals with an annual income of more than $10,000 paid a 5% tax rate.
This tax was the forerunner of our modern personal income tax as it was
based on the concepts of graduated taxation and "withholding at the
source" by employers. An "inheritance" tax also made its debut.
The Act of 1862 established the office of Commissioner of Internal Revenue.
The Commissioner was given the power to assess, levy, and collect taxes,
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and the right to enforce the tax laws through seizure of property and
through prosecution.
By 1866, tax collections had reached their highest point in history. The
federal government collected more than $310 million. In 1867, heeding
public opposition to the income tax, Congress cut the tax rate. The need for
federal revenue declined sharply after the war and the personal income tax
was abolished in 1872.

The Post-Civil War Period

With the passage of The Wilson Tariff Act in 1894 Congress revived the flat
rate federal income tax at a rate of 2%. The Bureau of Internal Revenue was
created with an income tax division. However, the Supreme Court ruled the
law unconstitutional in Pollock v. Farmers' Loan & Trust Co. the following
year. The Supreme Court ruled that taxes on rents from real estate, interest
income, dividend income, and from personal property were direct taxes on
property, and therefore had to be apportioned according to the population
of each state. Under the Constitution, Congress could impose direct taxes
only if they were levied in proportion to each State's population. Thus, a
federal income tax was impractical from the time of the Pollock decision
until ratification of the Sixteenth Amendment in 1913. What seemed to be a
straightforward limitation in the Constitution on the power of the Congress
proved inexact and unclear when applied to an income tax. The Bureau of
Internal Revenues income tax division was closed.
From 1896 until 1910 the Federal government relied heavily on high tariffs
for its revenues. The War Revenue Act of 1899 raised funds for the SpanishAmerican War through the sale of bonds, taxes on recreational facilities, and
it doubled the tax on beer and tobacco. The War Revenue Act expired in
1902. From 1868 to 1913, 90% of all revenue was collected from excise
taxes on liquor, beer, wine and tobacco.
In 1909 the Payne-Aldrich Tariff Act enacted an income tax on the privilege
of conducting business as a corporation. It was affirmed by the Supreme
Court in Flint v. Stone Tracy Co. Sometuimes referred to as the Corporate
Income Tax Act of 1909, it was the United States's first corporate income tax
law. It layed the ground work for the 16th Ammendment - the individual
income tax.

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The table below shows how long Americans work each year to pay their
taxes:
Number of Days Per
Year Spent Working

All Taxes as a

Year

to Pay Taxes

Percentage of Income

1900

22

5.9%

1910

19

5.0%

1920

44

12.0%

1930

43

11.7%

1940

55

17.9%

1950

91

24.6%

1960

102

27.7%

1970

110

29.6%

1980

112

30.7%

1990

113

30.8%

1997

119

32.5%

1998

122

33.2%

1999

122

33.3%

2000

125

34.0%

2001

121

33.0%

2002

111

30.3%

2003

108

29.5%

2004

109

29.7%

2005

116

31.5%

2006

118

32.3%

2007

120

32.7%

2008

113

30.8%

2009

103

28.2%

2010

99

26.9%

2011

102

27.7%

2012

107

29.2%

Source: www.taxfoundation.org
Table: Total Effective Tax Rates

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The 16th Amendment

In 1909 President Taft recommended that Congress propose a
constitutional amendment that would give the government the power to
tax incomes without apportioning the burden among the states
populations.
The 16th amendment was ratified by Wyoming on February 3, 1913,
providing the three-quarter majority of states necessary to amend the
Constitution. It allowed the Federal government to tax the income of
individuals without regard to the population of each State. The 16th
Amendment states "The Congress shall have power to lay and collect taxes
on incomes, from whatever source derived, without apportionment among
the several States, and without regard to any census or enumeration". It
made the income tax a permanent fixture in the U.S. tax system and
resulted in a revenue law that taxed incomes of both individuals and
corporations.
On October 3, 1913 President Woodrow Wilson signed into law the
Revenue Act of 1913, also known as the Tariff Act of 1913. Congress levied a
1% tax on net personal incomes above $3,000 - rising to 6% on incomes of
more than $500,000.
Less than 1% of the population was subject to the income tax in 1913. At
that time the average annual wage for a worker in the U.S. was under
$1,300, so only the wealthy had to file a tax return. The $3,000 filing
threshold in 1913, when adjusted for inflation, is the equivalent of about
$69,573 in todays dollars. The income tax only applied to 358,000 highincome taxpayers. By 1944 that number grew to 47.1 million, and today it
stands at nearly 150 million.
The Revenue Act of 1913 also lowered basic tariff rates from 40% to 25%,
the lowest rates since the Walker Tariff of 1857.
In 1913 the first Form 1040 appeared as the standard tax reporting form,
and March 1st was the date specified as the filing deadline. The 1 page of
instructions for Form 1040 has since grown to 189 pages.
Payment was not sent with the first Form(s) 1040. The return was verified by
a field agent who then sent out tax bills on June 1st with payment due by
June 30th. See the top of the first Form 1040 below.
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Figure 1-0: Form 1040 page 1, circa 1913.

To view the entire 1913 Form 1040 see Appendix A or click here.
Before the income tax most citizens were able to pursue their financial
affairs without any knowledge by the federal government. Individuals

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earned their money and wealth was accumulated and dispensed with little
or no interaction with the federal government.

Side Bar

How does a Bill become a Tax Law?

The U.S. Constitution specifically spells out how Congress must consider
and adopt tax legislation.
Most tax legislation begins with the president who consults with his
financial advisors and Treasury Department officials before sending a
plan to Congress. He can do this at any time, but he usually does it
shortly after the State of the Union address.
All tax legislation must originate in the House Committee on Ways and
Means. The panel which consists of the most senior and powerful
members of the House, holds hearings, makes changes, and forwards the
bill to the full House.
The bill that the House of Representatives gets from the Committee on
Ways and Means is then drafted into legislation and is accompanied by a
detailed report that gives the Committee's reasons for recommending
the bill. The IRS and the courts may later use this Committee report as an
interpretation of the legislation. If the House approves the bill it is sent to
the Senate Finance Committee.
The Senate Finance Committee is responsible for all Senate legislation
dealing with tax matters. They hold hearings and usually make changes
before sending the bill to the full Senate.
The Senate debates the bill and usually makes additional changes before
holding a vote before the full Senate. If the Senate approves an
unchanged version of the bill it received from the House, the bill goes to
the White House for the president's signature.
If the Senate makes changes in the bill it received from the House, it goes
to a conference committee whose members are appointed by the
Speaker of the House and the President of the Senate. This committee
combines the two versions into compromise legislation. The compromise
bill goes back to the full House and the full Senate, which each must
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approve the same version of the bill.

Once Congress votes, the bill goes to the President for his signature.

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SIDE BAR

What is the Federal Reserve and what does it do?

In 1791 the U.S. Government chartered the first Bank of the United States to
act as the U.S. central bank for 20 years. In 1811 Congress declined to renew
its charter as it was believed to be unnecessary. In 1816 the second Bank of
the United States was chartered for 20 years. In 1836 Congress declined to
renew its charter as it was also believed to be unnecessary.
The Panic of 1907 was started by a failed attempt to corner the stock of
United Copper. Subsequent bank and brokerage failures only halted when
J.P. Morgan convinced other trust company presidents to provide backing to
the Trust Company of America.
The Federal Reserve System (Federal Reserve) is the central bank of the
United States. It was created in 1913 with the enactment of the Federal
Reserve Act in response to a series of financial panics, especially the financial
Panic of 1907.
In the Federal Reserve Act Congress established three key objectives for
monetary policy - maximum employment, stable prices, and moderate longterm interest rates. The first two objectives are sometimes referred to as the
Federal Reserve's dual mandate.
The Federal Reserves duties include administering the nation's monetary
policy, supervising and regulating banks, maintaining a stable financial
system and providing banking and monetary services to depository
institutions, the U.S. government, and foreign institutions.

The United States entry into World War I greatly increased the need for
revenue. One problem with the income tax law was how to define
"lawful" income. Congress responded by passing the 1916 Revenue Act.
It deleted the word "lawful" from the definition of income.
Consequently, all income, regardless of how it was obtained, became
subject to tax. The Supreme Court would subsequently rule the Fifth
Amendment could not be used by bootleggers and others who earned
income through illegal activities to avoid paying income taxes. As a
result, many who broke various laws and were able to escape
prosecution for those crimes were convicted on tax evasion charges.

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The 1916 Act raised the lowest tax rate from 1% to 2% and raised the top
rate to 15% on taxpayers with incomes in excess of $1.5 million. The 1916
Act also imposed taxes on estates and excess business profits.
The income tax fundamentally changed the relationship between the
citizens and the federal government by giving the federal government the
right and the need to know all about an individuals or business's financial
life. Consequently, in 1916 Congress required that information from income
tax returns be kept confidential.
Needing still more tax revenue, the War Revenue Act of 1917 lowered
exemptions and greatly increased income tax rates. Tax revenues increased
from $809 million in 1917 to $3.6 billion in 1918.
The Revenue Act of 1918, passed to raise even greater sums for the World
War I effort, increased income tax rates once again, this time raising the
lowest rate to 6%. The top rate of income tax rose to 77%. The Revenue Act
of 1918 codified all existing tax laws and pushed the filing deadline forward
to March 15th where it remained until 1954 when it was moved ahead to
April 15th. In 1918, 5% of the U.S. population paid income taxes, as
compared to just 1% five years earlier. By 1939 that number would rise to
6%, and six years later by the end of World War II it would stand at 75%.
Today the federal income tax affects 90% of all Americans.

The 1920s
The Prohibition Unit was established to enforce the National Prohibition Act
of 1919, commonly known as the Volstead Act, which, under the 18th
Amendment to the Constitution prohibited the manufacture, sale, and
transportation of alcoholic beverages. When it was first established in 1920,
the Prohibition Unit was a division of the Bureau of Internal Revenue. On
April 1, 1927 it became an independent entity within the Department of the
Treasury, changing its name from the Prohibition Unit to the Bureau of
Prohibition.
The tax rates dropped sharply after World War I. During the 1920s, with a
booming economy, Congress cut taxes five times returning the lowest tax
rate to 1% and lowering the highest rate to 25%. As tax rates and tax
collections declined, the economy got even stronger.

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On a cold wintry morning in February, 1929

two cars; a Cadillac sedan and a Peerless,
both outfitted to look like Chicago Police
detective sedans, pulled up to the SMC
Cartage Company garage at 2122 North
Clark Street in the Lincoln Park
neighborhood on Chicago's North Side that
served as the headquarters of Bugs Morans
North Side Gang. Four gunmen, two
disguised as police officers and toting
Thompson submachine guns, killed seven
men in a storm of seventy machine-gun Figure 1-1: George "Bugs" Moran
bullets and two shotgun shells.
To show by-standers that everything was under control, the two men in
street clothes were "arrested" and came out with their hands up, led by the
two phony uniformed cops.
Al Capone, the Chicago gangster, had orchestrated the most notorious
gangland killing of the 20th century - the St. Valentine's Day Massacre. The
massacre was Capone's effort to dispose of Bugs Moran, who, as it turned
out, wasnt in the garage at the time. Moran, spotting the police cars
outside, had decided to keep walking. No one was ever arrested for the
crime.
The economy grew steadily during most of the 1920s. It was a golden age
as innovations such as radio, automobiles, aviation, and the telephone
became popular. On August 24, 1921, the Dow Jones Industrial Average
stood at 63.9. By September 3, 1929 it had risen more than six fold to 381.2.
During the summer of 1929 it became clear that the economy was
contracting and that the stock market would soon go through a series of
unsettling price declines.
When the New York Stock Exchange opened on the morning of October 24,
1929, nervous traders sensed something was wrong. By 11:00 AM the
market was plunging. At noon a group of powerful bankers met secretly at
J.P. Morgan & Co., next door to the New York Stock Exchange, and agreed
to spend $240 million of their own funds to stabilize the stock market.

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This strategy worked for a few days but the panic broke out again the
following Tuesday, October 29, 1929, and there was no stopping it. The
stock market crashed. Within three months the stock market lost 40% of its
value. $26 billion of wealth disappeared. AT&T lost one-third of its value.
General Electric lost one-half of its value. RCA's stock fell by three-quarters
within a matter of months. It would take 25 years for the stock market to
return to its pre-crash level.
The Great Depression began and over the next few years:

Unemployment exceeded 25%

10,000 banks failed
The Gross National Product
declined from $105 billion in 1929
to $55 billion in 1933
Compared to 1920's levels, net new
business investment was minus $5.8
billion in 1932
Wages paid to workers declined
from $50 billion in 1929 to $30
billion in 1932

Figure 1-2: Chart of the US Gross

National Product from 1926 to 1934.

As the economy shrank, government tax receipts also fell dramatically.

Side Bar

How do taxes affect the economy?

Seventy-two percent of our economy is based on consumer spending.
Raising taxes takes money from consumers and dampens the economy,
because consumers have less money to spend. This results in less retail
and home sales and lower investment and savings rates. However, raising
taxes can increase public-sector jobs, provided the increased revenues
are spent that way. It also helps decrease government debts which
dampen the economy. During wartime government spending is much
higher and it boosts all phases of the economy.
Lowering taxes puts extra money in consumers' pockets. Consumers can
then spend this money, boosting retail and home sales and investment
and savings rates. However, the extent of this boost depends on how
large the tax cut is, and which taxes are cut. Cuts for middle-income and
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low-income people tend to put more money into the economy because
these taxpayers are more likely to spend their extra cash right away, on
purchases or renovations they have been putting off. Cuts for highincome taxpayers tend not to have the same effect, because this group
already has enough money to buy everything they need. High-income
taxpayers tend to save their extra money, so cuts for these taxpayers end
up being used for investments and savings. Cuts for high-income
taxpayers improve the outlook on Wall Street. Cuts in corporate and
business taxes give businesses more money to spend, often creating jobs
and boosting the bottom line.
In 1932, the federal government collected only $1.9 billion in taxes,
compared to $6.6 billion in taxes in 1920. In the face of rising budget
deficits which reached $2.7 billion in 1931, Congress followed the prevailing
economic wisdom of the time and passed the Tax Act of 1932 which
dramatically increased tax rates. This further improved the government's
finances while further weakening the economy. In retrospect, Congress
should have lowered tax rates instead of raising them. By 1936 the lowest
personal income tax rate had risen to 4% and the highest tax rate had risen
to 79%.

Side Bar

How does the federal budget process work?

On or before the first Monday in February of each year, the President is
required by law to submit to the Congress a budget proposal for the
fiscal year that begins the following October. The budget plan sets forth
the Presidents proposed receipts, spending, and the surplus or deficit for
the Federal Government. The plan includes recommendations for new
legislation as well as recommendations to change, eliminate, and add
programs. After receiving the Presidents proposal, the Congress reviews
it and makes changes. It first passes a budget resolution setting its own
targets for receipts, outlays, and the surplus or deficit. Next, individual
spending and revenue bills that are consistent with the goals of the
budget resolution are enacted.

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Flowchart: Federal Income and Expenses

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Side Bar

Herbert Hoover Presidential Library and Museum

Further information about The Great Depression is available in Gallery Six
of the Herbert Hoover Presidential Library and Museum.

The 1930s
During a routine warehouse raid in Chicago
in 1931 by the Treasury Departments
Bureau of Prohibition, agents Eliot Ness and
The Untouchables discovered what was
clearly a crudely coded set of accounts in a
desk drawer. They, and Frank Wilson, an
undercover agent in the Bureau of Internal
Revenues
Intelligence
Unit,
then
concentrated on gathering evidence and
pursuing Public Enemy No. 1, Al Capone, for
Figure 1-3: Alphonse Gabriel
his failure to pay income tax on this
Capone a.k.a. "Scarface Al"
substantial illegal income.
Capone had always done his business through front men and it was
previously believed he had no books or accounting records in his own
name. Even his mansion was in his wife's name.
Capone was tried in federal court in 1931. Capone was found guilty on five
of 22 counts of tax evasion for the years 1925, 1926, and 1927, and willful
failure to file tax returns for 1928 and 1929. Capone's legal team offered to
pay all outstanding income taxes plus interest and told their client to expect
a severe fine. On October 17, 1931 the judge sentenced Capone to eleven
years in a federal prison and one year in the county jail, as well as an earlier
six-month contempt of court sentence. He ultimately served only six and a
half years because of time off for good behavior. He also had to pay fines
and court costs totaling $80,000. Capones isolation from his associates and
the repeal of Prohibition ended his criminal career.

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Other notable tax evaders:

On October 10, 1973, Spiro T. Agnew, the 39th Vice President of the
United States, resigned and then pleaded nolo contendere (no
contest) to criminal charges of tax evasion and money laundering;

Soviet spy Aldrich Ames earned more than $2 million for his
espionage and was also charged with tax evasion as none of the
money was reported on his income tax returns. Ames attempted to
have the tax evasion charge dismissed on the grounds his espionage
profits were illegal, but the charges stood. The $2 million remains to
this day in an undisclosed bank account. Russian intelligence has
refused to disclose this bank account information in order for the
United States to seize it, arguing that that money was rightfully
earned by Ames;

Leona Helmsley the billionaire New York City hotel operator and real
estate investor nicknamed "The Queen of Mean." She was convicted
of federal income tax evasion in 1989 and served 19 months in
prison, after receiving an initial sentence of 16 years;

Irwin A. Schiff, a prominent member of the group which refers to

itself as the tax honesty movement, and which has been referred to
by the Internal Revenue Service and other government agencies as
the tax protester movement. Schiff is known for writing and
promoting literature that claims the United States income tax is
applied incorrectly. He has lost several civil cases against the federal
government and has a record of multiple convictions for various
federal tax crimes. Schiff is serving a 13-plus year sentence for tax
crimes as Inmate #08537-014 at the Federal Correctional Institution
at Fort Worth, Texas. His projected release date is July 26, 2017.

Side Bar

Who was J.K. Lasser?

Jacob Kay Lasser was born in Newark, NJ in 1896. He took night classes in
accounting at New York University from 1915-1917 and became a
Certified Public Accountant practicing in New York City in 1923. In 1938
the publishing house Simon & Schuster commissioned him to author an
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income tax guide. Its first publication in 1939 sold 23,000 copies and hit
the best sellers list. Mr. Lasser became an adjunct professor at New York
University in 1942 and served as the Institute on Taxations chairman until
his death. Mr. Lasser revised the tax guide each year and by 1946 seven
million copies were sold. His books on taxation were used as texts in
more than 160 colleges and universities. He died from a heart attack at
the age of 57 in 1954. His best selling tax guide, J.K. Lassers Your Income
Tax is in its 76th year of continuous publication and today is published by
John Wiley & Sons, Inc.
We strongly recommend that you purchase a copy of J.K. Lassers Your
Income Tax each year. You can do so from Lesson 30 on the Homework
Page. The Tax College is not affiliated with the J.K. Lasser Institute.

Tax Quote

"Anyone may arrange his affairs so that his taxes shall be as low as
possible; he is not bound to choose that pattern which best pays the
treasury. There is not even a patriotic duty to increase one's taxes. Over and
over again the Courts have said that there is nothing sinister in so
arranging affairs as to keep taxes as low as possible. Everyone does it, rich
and poor alike and all do right, for nobody owes any public duty to pay
more than the law demands."
Judge Learned Hand - (1872-1961), Judge, U. S. Court of Appeals for the
2nd Circuit Gregory v. Helvering 69 F.2d 809, 810 (2d Cir. 1934), aff'd, 293
U.S. 465, 55 S.Ct. 266, 79 L.Ed. 596 (1935)
The Social Security Act
In 1935 Congress passed the Social Security Act.
President Franklin D. Roosevelt signed the program
into law on Aug. 14, 1935. This law provides
payments to the aged, the needy, the handicapped,
and to certain minors. These programs were initially
financed by a 2% tax, one-half of which was
withheld directly from an employee's paycheck and
one-half of which was collected from employers.
The tax was levied on the first $3,000 of the
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employee's salary or wages.

Figure 1-4: Ernest Ackerman

Under the original 1935 law,

monthly benefits were to start in
1942 (which was subsequently
changed to 1940). From 1937 until
1940, Social Security paid benefits to
retirees in the form of a single,
lump-sum refund payment. The
earliest reported applicant for a
lump-sum refund was a retired
Cleveland motorman named Ernest
Ackerman, who retired one day after
the Social Security program began.

During his one day of participation in the program, a nickel was withheld
from Mr. Ackermans pay for Social Security, and, upon retiring, he received
a lump-sum payment of 17 cents. The average lump-sum payment during
this period was $58.06. The smallest payment ever made was for 5 cents.
Ida May Fuller of Ludlow, Vermont filed her retirement claim on November
4, 1939. While running an errand she dropped by the Rutland, VT Social
Security office to ask about possible benefits. She would later say: "It wasn't
that I expected anything, mind you, but I knew I'd been paying for
something called Social Security and I wanted to ask the people in Rutland
about it."
Her claim was taken by Claims Clerk Elizabeth Corcoran Burke and
transmitted to the Claims Division in Washington, D.C. for adjudication. The
case was reviewed and sent to the Treasury Department for payment. In
those days claims were grouped in batches of 1,000 and a Certification List
for each batch was sent to the Treasury Department. Miss Fuller's claim was
the first one on the first Certification List.

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On January 31, 1940, Ida May Fuller popped

open her mailbox and found Social Security
check number 00-000-001 payable to her in
the amount of $22.54. Though hardly a
fortune, the check was nonetheless a
milestone: it was the first monthly
retirement payment made under the Social
Security Act.
Ida May Fuller had worked for three years
under the Social Security program.

Figure 1-5: Ida May Fuller

The accumulated taxes on her salary during those three years were a total of
$24.75. Her initial monthly check was $22.54. She didnt do too badly under
Social Security - during her remaining thirty-five years she collected a total
of $22,888.92 in Social Security benefits nearly 1,000 times more than she
contributed. Miss Fuller lived to be 100 years old, dying in 1975.
Soon after it was passed in 1935, Social Security morphed from a fully
funded pension system into a pay-as-you-go system where every
generation (except for Ernests and Ida Mays) pays into the system to
support the currently-retired generation and relies on the next generation
to pay its Social Security benefits.
When Ida May Fuller retired, 40 workers were paying taxes to support each
Social Security recipient. In 1960, there were 4.9 workers paying Social
Security taxes for each person receiving benefits. Today, there are 2.8
workers for each beneficiary, a ratio that will drop to 1.9 workers by 2035,
according to projections by the Congressional Budget Office.
In 1940, when the Social Security Administration mailed Ida May Fuller the
first monthly retirement payment, the retirement age was 65. At that time,
workers who survived to age 65 had a remaining life expectancy of 12.7
years for men and 14.7 years for women. By 2011, life expectancy at age 65
was 18.7 years for men and 20.7 years for women, an increase of six full
years for both. In 20 more years, life expectancy at age 65 for men is
expected to be more than 20 years and more than 22 years for women.
In 1940, 220,000 people received Social Security benefits, out of a total
population of 132 million. At that time, .1666 percent of the total population
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received benefits. In 2012, 57 million people received Social Security

benefits, out of a total population of 315 million. Today, about 18 percent of
the total population receive benefits. These figures dont include some 8.3
million people who receive payments under Supplemental Security Income,
a program aimed primarily at the blind and disabled that launched in the
1970s.

Side Bar

Fast Facts & Figures About Social Security

Fast Facts & Figures About Social Security answers the most frequently
asked questions about the programs the Social Security Administration
administers. To get your copy click here.
In 1939, Congress again codified the income tax laws and all subsequent tax
legislation until 1954 amended the 1939 tax code.

The World War II Period

The Revenue Act of 1942 was hailed by President Franklin Roosevelt as "the
greatest tax bill in American history". It increased taxes and the number of
Americans subject to the income tax, created deductions for medical
expenses and investment expenses, and reduced the personal exemption
amount from $1,500 to $1,200 for married couples. The exemption amount
for each dependent was reduced from $400 to $350 and a 5% Victory tax
on all individuals with incomes over $624 was created, with postwar credit.
The top tax rate reached 94% during the World War II and remained at 91%
until 1964.
In 1943 Congress re-introduced payroll withholding, as had been done
during the Civil War, with the Current Tax Payment Act. This greatly eased
the collection of the tax for the Bureau of Internal Revenue. It also greatly
reduced the taxpayer's awareness of the income tax by increasing its
transparency, which made it easier to raise taxes in the future.

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Figure 1-6: Form W-2 - Statement of Income Tax Withheld on Wages, circa 1943. Payroll
withholdings are reported to the employee and the IRS on Form W-2.

Tax withholding was also introduced in the Tariff Act of 1913, but repealed
by the Income Tax Act of 1916. The Current Tax Payment Act required
employers to withhold taxes from employees' wages and pay them directly
to the government on the workers' behalf quarterly.
In 1944 Congress passed the Individual Income Tax Act, which created the
standard deductions on Form 1040, raised individual income tax rates, and
repealed the Victory Tax. It standardized the value of personal exemptions
at $500 per person. There were about 60 million taxpayers.

The Post-World War II Period

President Eisenhower reorganized the Bureau of Internal Revenue in 1953
and replaced its patronage system with career, professional employees. The
IRS commissioner and chief counsel are selected by the president and
confirmed by the Senate. The Bureaus name was changed to the Internal
Revenue Service to stress the "service" aspect of its work.
On August 16, 1954 the Internal Revenue Code of 1954 was enacted by
Congress, succeeding the Internal Revenue Code of 1939. The Code
temporarily extended the Revenue Act of 1951's 5% increase in corporate
tax rates through March 31, 1955, increased depreciation deductions by
providing additional depreciation schedules, and created a 4% dividend tax
credit for individuals. References to the Internal Revenue Code subsequent
to 1954 generally mean Title 26 of the United States Code, as amended. The
basic structure of Title 26 remained the same until the enactment of the
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comprehensive revisions contained in Tax Reform Act of 1986, although

individual provisions of the law were changed regularly.
The Social Security system remained basically unchanged until 1956. In 1956
Social Security began an evolution and more and more benefits were
added, beginning with Disability Insurance benefits. In 1958, benefits were
extended to dependents of disabled workers. In 1967, disability benefits
were extended to widows and widowers.
By 1959, the IRS had become the world's largest accounting, collection, and
forms processing organization. Computers were introduced to automate
and streamline its work and to improve service to taxpayers. In 1961,
Congress passed a law requiring individual taxpayers to use their Social
Security numbers on tax forms.

The 1960s
The Revenue Act of 1964 was signed by President Lyndon Johnson on
February 26th, 1964. It reduced individual income tax rates from 91% to
70%, and reduced the top corporate rate from 52% to 48%. A minimum
standard deduction of $300 plus $100 per exemption was created.

Side Bar

Does raising income tax rates increase revenues to the federal

government?
Although conventional wisdom holds that increasing income tax rates or
eliminating deductions for wealthier Americans will generate greater
revenue for the U.S. Treasury, history shows otherwise.
The Dow Jones Industrial Average dropped by about half, from 119 in
November 1919 to 64 in August 1921. Double digit unemployment
ensued. The federal government made it clear it would not intervene
except to raise interest rates, cut taxes and reduce the size of the
government. The economy recovered so quickly that the stock market
crash of of 1919 is largely forgotten.
During the 1920's Presidents Warren Harding and Calvin Coolidge cut the
top marginal income tax rates from 77% to 25% only to see federal
revenues rise dramatically as the economy grew increasingly stronger.
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The rich, who at that time were earning more than $50,000 per year, went
from paying 44% of total income tax revenues to paying 78.4%.
On December 14, 1962 the 35th President of the United States, John F.
Kennedy delivered a speech to the Economic Club of New York in which
he stated: It is increasingly clear that... an economy hampered by
restrictive tax rates will never produce enough revenues to balance our
budget just as it will never produce enough jobs or enough profits... In
short, it is a paradoxical truth that tax rates are too high today and tax
revenues are too low and the soundest way to raise the revenues in the
long run is to cut the rates now. After Presidents Kennedy and Lyndon
Johnson slashed the capital gains tax and cut the top marginal tax rate
from 91% to 70% federal tax revenues rose from $91 billion in 1960 to
$153 billion in 1968. During those years the rich saw their total share of
revenues increase by 57% while the poor's share increased by just 11%.
During President Ronald Reagan's term in office (1981-1989) he cut taxes
but doubled revenue, and decreased unemployment from 7% to 5.4%
and inflation from 13.5% to 4.1%. In the Reagan years, the top 1% of
earners paid 57.2% of taxes, up from 48%.

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The table below shows how much money the federal government
collects each year in taxes:

Year
1960
1970
1980
1990
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012
2013
2014

Total Tax
Collections
$91,774,803,000
$195,722,096,000
$519,375,273,000
$1,056,365,652,000
$2,096,916,925,000
$2,128,831,182,000
$2,016,627,269,000
$1,952,928,045,000
$2,018,502,103,000
$2,268,895,122,000
$2,518,680,230,000
$2,691,537,557,000
$2,745,035,410,000
$2,345,337,177,000
$2,345,055,978,000
$2,414,952,112,000
$2,524,320,134,000
$2,855,059,420,000
$3,064,301,358,000

%
Increase
113%
165%
103%
99%
2%
-5%
-3%
3%
12%
11%
7%
2%
-15%
0%
3%
5%
13%
7%

Total Individual
Individual
Income Tax
%
Tax % of
Collections
Increase
Total
$44,945,711,000
48.97%
$103,651,585,000
131%
52.96%
$287,547,782,000
177%
55.36%
$540,228,408,000
88%
51.14%
$1,137,077,702,000
110%
54.23%
$1,178,209,880,000
4%
55.35%
$1,037,733,908,000
-12%
51.46%
$987,208,878,000
-5%
50.55%
$990,248,760,000
0%
49.06%
$1,107,500,994,000
12%
48.81%
$1,236,259,371,000
12%
49.08%
$1,366,241,437,000
11%
50.76%
$1,425,990,183,000
4%
51.95%
$1,190,382,757,000
-17%
50.76%
$1,175,989,528,000
-1%
50.15%
$1,346,182,227,000
14%
55.74%
$2,172,233,368,000
61%
86.05%
$2,462,201,645,000
13%
86.24%
$2,575,871,018,000
5%
84.06%

Table: Internal Revenue Gross Collections

Medicare
In 1965 Congress enacted the Medicare program which provides for the
medical needs of persons aged 65 or older. Social Security Amendments
created the Medicaid program which provides medical assistance for
people with low incomes and resources. The expansions of Social
Security and the creation of Medicare and Medicaid required additional
tax revenues. In 1972 benefits were indexed for the cost of living. In
1949 the FICA payroll tax rate was 2%. The expansions in 1965 led to
further rate increases, with the combined payroll tax rate climbing to
15.3 % by 1990. The maximum Social Security tax burden rose from $60
in 1949 to $7,849 by 1990.

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The Economic Recovery Tax Act of 1981

In the late 1960s and through the 1970s there was persistent and rising
inflation, ultimately reaching 13.3% in 1979. During this time, the income tax
was not indexed for inflation. Despite repeated tax cuts, the tax burden of
the citizens rose. The Economic Recovery Tax Act of 1981, which enjoyed
strong bi-partisan support in Congress, was passed on August 4, 1981 and
was signed into law by President Ronald Regan on August 13, 1981. It was
the largest tax cut in U.S. history. It amended the Internal Revenue Code of
1954 to encourage economic growth through reductions in individual
income tax rates, first year expensing of depreciable property, incentives for
small businesses, and incentives for savings. The Accelerated Cost Recovery
System was implemented for depreciation. The Act reduced the income tax
rates by approximately 25% over three years with the top rate falling from
70% to 50% and the bottom rate falling to 11%. The rates were indexed for
inflation, although indexing was delayed until 1985, and a 10% Investment
Tax Credit was implemented to spur capital formation. The tax cuts resulted
in deficits in the federal budget in the 1980s and early 1990s, but also
created an economic expansion.
The Tax Reform Act of 1984 tries to plug loopholes and ensure that all
taxpayers pay a fair share of the tax burden. It also reforms taxation of
international income, and tries to improve the administration and efficiency
of the tax system.

The Tax Reform Act of 1986

The Congress passed the Tax Reform Act of 1986 on October 22, 1986.
President Reagan signed the most significant piece of tax legislation in 30
years. It contained 300 provisions and took three years to implement. The
Act codified the federal tax laws for the third time since the Revenue Act of
1918. It simplified the income tax code, broadened the tax base and
eliminated many tax shelters and other preferences. The top tax rate was
lowered from 50% to 28%, the lowest it had been since 1916, while the
bottom rate was raised from 11% to 15% - the only time in history that the
top rate was reduced and the bottom rate increased concurrently. 15% and
28% became the only two income tax brackets. The capital gains tax rate
was the same as for ordinary income. Interest on consumer loans and state
and local sales tax were no longer deductible. Income averaging, which
reduced taxes for those only recently making a much higher income than
before, was eliminated. The Act increased the personal exemption and the
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standard deduction. Deductions for passive activities were limited to

remove the tax benefits of many tax shelters, especially for real estate
investments. Also in 1986, limited electronic filing began.

Flowchart: Number of Days Worked

Tax Quote

"Government is saying to the average citizen every January 1: 'For the next
five months youll be working for us, for goals we shall determine. Is that
clear? After May 5 you may look after your own needs and ambitions, but
report back to us next January. Now move along.'
If nearly half of what you make is spent by someone else, that means that
half your work time is spent working for someone else. Call me a radical,
but I think that comes dangerously close to being a form of indentured
servitude."
Richard "Dick" Armey (1940 - ) House Majority Leader (1995-2003)

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The Internal Revenue Service

Restructuring and Reform Act of 1998
The Internal Revenue Service Restructuring and Reform Act of 1998 resulted
from hearings held by the Congress in 1996 and 1997. It prompted the
most comprehensive reorganization and modernization of IRS in nearly half
a century. The Act, which expanded taxpayer rights and called for
reorganizing the agency into four operating divisions aligned according to
taxpayer needs, included numerous amendments to the Internal Revenue
Code of 1986. It provides that individuals who fail to provide their taxpayer
identification numbers are not allowed to take the earned income credit for
the year in which the failure occurs and that individuals are allowed to
deduct interest expense paid on certain student loans. The Taxpayer Bill of
Rights III was enacted on July 22, 1998 as title III of the Act. It established a
Taxpayer Advocate Service as an independent voice inside the IRS.
During the 1990s the top income tax rate rose again, standing at 39.6% by
the end of the decade. In 2000 the IRS ended its geographic based structure
and implemented the four major operating divisions required by the
Restructuring and Reform Act of 1998: Wage and Investment, Small
Business/Self-Employed, Large and Mid-Size Business, and Tax Exempt and
Government Entities.

The Economic Growth and Tax Relief

Reconciliation Act of 2001
The top income tax rate was cut to 35% and the bottom rate was cut to
10% by the Economic Growth and Tax Relief Reconciliation Act of 2001
(EGTRRA). EGTRRA made significant changes in several areas of the Internal
Revenue Code, including income tax rates, estate and gift tax exclusions,
and qualified and retirement plan rules for Individual retirement accounts,
401(k) plans, 403(b), and pension plans. Many of the tax reductions in
EGTRRA were designed to be phased in over a period of up to 9 years.
One of the most notable characteristics of EGTRRA is that its provisions are
designed to sunset, or revert to the provisions that were in effect before it
was passed. EGTRRA will sunset on January 1, 2011 unless further legislation
is enacted to make its changes permanent.

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EGTRRA brought to prominence a lesser known provision of the Internal

Revenue Code, the Alternative Minimum Tax (AMT). It is an alternate system
of calculating a taxpayer's liability that removes many so called "tax
preference items". The applicable AMT rates were not adjusted in step with
the lowered rates of EGTRRA and the 2003 act, causing many more people
to face higher taxes because of the AMT than had originally been planned.
The AMT was originally designed as a way of making sure that wealthy
taxpayers could not take advantage of "too many" tax incentives and reduce
their tax obligation by too much. When it was introduced in 1969 it was
intended to target 155 high-income households that had been eligible for
so many tax benefits that they owed little or no income tax. In 1970, 20,000
taxpayers owed AMT. In 2006, 3.5 million taxpayers owed AMT, because of a
temporarily higher exemption, which expires at the end of the year. In 2007,
unless Congress acts, 23.4 million taxpayers will owe AMT. If the 2001-2006
tax cuts expire as scheduled at the end of 2010, 39 million taxpayers, more
than one-third of all taxpayers, will be hit with the AMT in 2017. If the tax
cuts are extended, that number jumps to 53 million taxpayers, about half of
all taxpayers.
EGTRRA changed the rate of tax on dividend income starting in 2003 to
5% for those in the 0% or 15% brackets, falling to 0% in 2008. It was
lowered to 15% for all other brackets. The capital gains tax on qualified
gains of property or stock held for five years was reduced from 10% to
8%.

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The table below shows the current federal income tax brackets:
2001

(1)

Rebate

15.0%

27.5%

30.5%

35.5%

39.1%

2002

10.0%

15.0%

27.0%

30.0%

35.0%

38.6%

2003-12

10.0%

15.0%

25.0%

28.0%

33.0%

35.0%

2013+

10.0%

15.0%

25.0%

28.0%

33.0%

35.0% 39.6%

(2)

(1)

In 2001 a new 10% tax bracket was introduced and tax rates were lowered. The
planned tax rates through 2010 were passed as part of the Tax and Economic
Recovery Acts in 2001 and 2003. They were extended in late 2010 through 2012.
They were extended again in January 2013, with a 39.6% rate for high income
earners.
(2)

Taxpayers in this bracket may also be subject to Affordable Care Act surtax of
0.9%.
Table: Individual Income Tax Brackets

The Jobs and Growth Tax Relief

Reconciliation Act of 2003
The Jobs and Growth Tax Relief Reconciliation Act of 2003 (JGTRRA), was
passed by Congress on May 23, 2003 and signed by President Bush on May
28, 2003. The act increased the exemption amount for the individual
Alternative Minimum Tax, lowered taxes on dividends and capital gains,
accelerated the tax rate cuts that had been enacted in 2001, and temporarily
reduced the tax rate on capital gains and dividends to 15%. Many of the
slow phase-ins enacted in 2001 were accelerated by the Act of 2003, which
removed the waiting periods for many of EGTRRA's changes.
Two tax bills signed in 2005 and 2006 extended through 2010 the favorable
rates on capital gains and dividends, raised the exemption levels for the
Alternative Minimum Tax, and enacted new tax incentives designed to
persuade individuals to save more for retirement.

The Patient Protection and Affordable Care

Act of 2010
The Patient Protection and Affordable Care Act ("The Act") fundamentally
alters the health care system for individuals and employers. All individuals
not covered by Medicaid or Medicare must obtain health care coverage or
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pay a tax penalty. Employer-provided coverage will generally satisfy the

coverage requirement. Lower-income individuals and some middle-class
families will receive a credit or voucher to help them pay for their health
insurance. Employers electing not to offer qualifying coverage are subject to
an additional tax. Exceptions are made for small businesses.
The key provisions of The Act, as amended by the House Reconciliation Act
(see below), include:
Tax Penalty: All individuals not covered by Medicaid or Medicare must
obtain health care coverage or pay a tax penalty which increases from the
greater of $95 or 1% of income in 2014 to the greater of $695 or 2.5% of
income in 2016 and thereafter, indexed for inflation.
Adult Children Coverage: The Act extends the employer-provided health
coverage gross income exclusion to coverage for adult children under age
27 as of the end of the tax year.
Employers: The Act does not require employers to provide health insurance
coverage. However, large employers (businesses with 50 or more "fulltime employees", which are defined as employees working 30 or more
hours per week) that do not provide minimum essential coverage are liable
for an additional tax.
Additional Medicare Payroll Tax: The Act broadens the Medicare tax base for
higher income taxpayers by:
1. Imposing an additional of 0.9 percent tax on earned income in excess of
$200,000 for individuals and $250,000 for families; and
2. Imposing an unearned income Medicare contribution tax of 3.8 percent
on investment income for individuals with Adjusted Gross Income (AGI)
above $200,000 and joint filers with AGI above $250,000. Net investment
income includes interest, dividends, royalties, rents, gain from the
disposition of property, and income earned from a trade or business that is
a passive activity.
Tax on High-Cost Insurance: The Act imposes a 40% non-refundable excise
tax on group insurers if annual premium payments exceed an inflation
adjusted $10,200 for individual coverage and $27,500 for family coverage
beginning in 2018.
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Market Sector Fees: The Act imposes annual nondeductible fees on various
health-related industries, such as medical device manufacturers and
importers, health insurance providers and others.
Medical Expense Deduction: The Act raises the threshold for the itemized
medical expense deduction from 7.5% of AGI to 10% of AGI for regular
income tax purposes effective for 2013. However, individuals age 65 and
older (and their spouses) are temporarily exempt from the increase until
2017.
Medicare Part D: The Act eliminates the deduction for the subsidy for
employers that maintain prescription drug coverage for retirees who are
eligible for Medicare Part D.
Tax-Exempt Hospitals: The Act requires Code Sec. 501(c)(3) hospitals to
conduct periodic community health needs assessments and adopt written
financial assistance policies. Individuals who qualify for financial assistance
are billed at the same rates as insured individuals.
Health Insurance Executive Pay: The Act modifies Code Sec. 162(m) as it
applies to compensation paid by health insurance providers to high-level
executives. If at least 25 percent of the insurers premium income does not
meet minimum essential coverage requirements under the Act, no Code
Sec. 162(m) deduction is allowed if compensation exceeds $500,000.
Indoor Tanning Tax: The Act imposed a tax of 10% on qualified indoor
tanning services effective July 1, 2010.
For complete details on The Patient Protection and Affordable Care Act see
the Affordable Care Act (ACA) Tax Preparer Course available for download
at the Lesson 1 Homework section.

The Health Care and Education

Reconciliation Act of 2010
The Health Care and Education Reconciliation Act of 2010 ("The
Reconciliation Act"), signed by President Obama on March 30, 2010,
completed a massive overhaul of the nations health insurance and health
delivery systems. The Reconciliation Act amends the Patient Protection and
Affordable Care Act of 2010, which President Obama signed on March 23rd.
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Combined, the two new laws include more than $400 billion in revenue
raisers and new taxes on employers and individuals.

The American Taxpayer Relief Act of 2012

The American Taxpayer Relief Act makes permanent for 2013 and thereafter
the Bush tax cuts, except for married taxpayers filing jointly (MFJ) with
taxable income above $450,000, taxpayers filing as Head of Household
(HOH) with taxable income above $425,000, and taxpayers filing Single (S)
with taxable income above $400,000. Income above the aforementioned
levels is now taxed at 39.6%.
The key provisions of the American Taxpayer Relief Act include:

a 20% capital gains and dividend tax rate for the aforementioned
taxpayers

a permanent fix for the Alternative Minimum Tax, by increasing the

exemption amounts and adjusting them annually for inflation

a revival of the "Pease Limitation" which limits itemized deductions

for taxpayers with income above $300,000 (MFJ), $275,000 (HOH),
$250,000 (S), and $150,000 (MFS)

a revival of the Personal Exemption phase-out for taxpayers with

income above $300,000 (MFJ), $275,000 (HOH), $250,000 (S), and
$150,000 (MFS)

a maximum federal estate tax rate of 40% with a $5,000,000

"portable" (between spouses) exclusion, which is adjusted annually
for inflation, and

a revival of many "tax extenders".

For complete details on The American Taxpayer Relief Act of 2012 see the
CCH Tax Briefings available for download at the Lesson 1 Homework
section.

The Modern Income Tax

The current Federal tax system has four main elements: (1) an income tax on
individuals and corporations (which consists of both a regular income tax
and an alternative minimum tax); (2) payroll taxes on wages (and
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corresponding taxes on self-employment income) to finance certain social

insurance programs; (3) estate, gift, and generation-skipping taxes, and (4)
excise taxes on selected goods and services.
The United States imposes an income tax on individuals, corporations,
trusts, and certain estates. This tax is imposed on income, such as wages,
and realization of a gains on the disposition of property. An individual's tax
bracket depends upon their income and their filing status. There are five (5)
filing statuses: single, married filing jointly, married filing separately, head of
household and qualifying widow or widower.
Tax rates can be progressive, regressive, or flat. With a progressive tax the
rate of tax increases as the amount of taxable income increases. The U.S.
income tax is a progressive tax. There are seven tax brackets for ordinary
income ranging from 10% to 39.6%.
An individual pays tax at a given bracket only for each dollar within that
bracket's range. The individual's marginal tax rate, the percentage of tax on
the last dollar earned, has no effect on any underlying income taxed at a
lower bracket. This ensures that every rise in a person's pre-tax salary results
in an increase of their after-tax salary.
Income tax systems often have deductions available that lessen the income
tax liability by reducing taxable income. Claiming deductions may reduce an
individual's tax liability by a rate equal to the marginal tax rate of their
particular tax bracket. If an individual is able to increase the amount of their
tax deductions by $1,000 and the individual's marginal tax rate is 25%, the
tax deductions will reduce the individuals tax liability by $250 ($1,000 x
25%). Please note that if part of the individuals $1,000 of income that was
offset by $1,000 of tax deductions was taxed in a lower tax bracket then the
reduction in tax liability would be less than $250.
Short-term capital gains are taxed at the ordinary income tax rates. Longterm capital gains have lower tax rates, with special tax rates in some
circumstances.

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Tax Tip

Who must file a tax return?

Generally, if the taxpayers income is less than his personal exemption
and standard deduction, he doesn't need to file a tax return unless he is
entitled to refund of federal tax withheld from his paycheck or if he
qualifies for the Earned Income Tax Credit, Additional Child Tax Credit, or
Adoption Credit. However there are exceptions that well explain in
Lesson 5.

SIDE BAR

How much is a fair share?

We hear it all the time. Politicians speak about the Tax Code and
make statements such as Everyone has to pay their fair share.
Sounds good, right?
But did you ever wonder exactly how many dollars are in a fair
share?
Its impossible to tell because what is completely fair under one
political ideology is completely unfair under another political
ideology. There is simply no way to determine exactly how much a
fair share is.

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The table below shows how much money the Federal Government
collects from each type of tax:
Gross Collections in Fiscal
Type of Tax

2014

Percentage of 2014

(1)

Total

Business Income Tax

$353,141,112

11.52%

Individual Income Tax

$2,575,871,018

84.06%

Unemployment Ins. Tax

$8,611,877

0.28%

Railroad Retirement Tax

$5,953,524

0.19%

Estate / Trust Income Tax

$29,410,796

0.96%

Estate Tax

$17,572,338

0.57%

Gift Tax

$2,582,617

0.08%

Excise Tax

$71,158,076

2.32%

Grand Total

$3,064,301,358

100.00%

(1)

Dollar amounts are in thousands of dollars and rounded.

Table: Internal Revenue Collections By Type

SIDE BAR

Do the rich pay taxes?

In a nutshell, yes. While a small percentage of the rich pay no income
taxes in any given year for various different reasons, the rich as a
group pay the greatest share of income taxes - more than any other
group. Consider the following facts:

According to the IRS, taxpayers with adjusted gross incomes

greater than $434,682 were in the top 1% of all US households
in terms of income in 2012.
The top 1% of taxpayers contributed 38.1% of all income taxes
collected by the U.S government. The top 50% of taxpayers
contributed 97.2% of all income taxes collected. The bottom
50% of taxpayers contributed 2.8% of all income taxes
collected.
In 2012 the top 1% paid an average effective tax rate of 22.8%
on their income far more than any other group, and almost
seven times the average effective rate of the bottom 50%, who
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paid 3.3% percent on average.

The wealthy's share of income taxes paid has increased
dramatically since 1986. However, so has their income.

(Sources: Internal Revenue Service, TaxFoundation.org)

What are the different types of taxes?

Income Tax
The federal government taxes income as its main source of revenue. Fortythree (43) states and a few counties and cities also levy income tax. Seven
states - Alaska, Florida, Nevada, South Dakota, Texas, Washington and
Wyoming - collect no income tax. Two others, New Hampshire and
Tennessee, only collect tax on dividend and interest income, not wages.
Income can be taxed at a flat rate - or on a graduated scale, with the people
who earn the most money paying a greater percentage of income tax.
Advantage: Graduated income taxes are a progressive tax, which means the
taxpayers with lower incomes pay less in income tax than those with higher
incomes.
Disadvantage: Truly fair and equitable income taxes are difficult to assess.
Sales Tax
Sales tax is levied on the purchase of such things as furniture, clothing and
movie tickets. The federal government does not have a sales tax, but states,
counties, and cities often rely heavily on sales tax. The tax rate and the types
of goods subject to these taxes vary from place to place.
Advantage: Sales tax is collected by the merchant, making it easy for
governments to track.
Disadvantage: Sales taxes are regressive, meaning that they impact most
heavily on those with the least ability to pay. Both poor and wealthy people
pay the same tax for the same item, although that sum represents a higher
percentage of the poor person's income than it does of the wealthy
person's income.

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Use Tax
Similar to sales tax, these taxes are levied for services such as telephone,
electric and other utilities, and for leases and rentals. They are also levied on
"users" of goods purchased "sales tax free" in another state.
Advantage: Use taxes are collected by the vendor, making it easier for
governments to track.
Disadvantage: Use taxes are regressive, meaning that they impact most
heavily on those with the least ability to pay.
Excise Tax
Excise tax, sometimes called "luxury tax," is used by both the state and
federal governments. Some examples of items subject to excise tax are
heavy tires, fishing equipment, airplane tickets, gasoline, beer and liquor,
firearms, and cigarettes.
Advantage: These taxes can sometimes be used to discourage the use of
items such as cigarettes and alcohol, or to reduce demand for items that
may be scarce.
Disadvantage: Excise taxes are regressive, meaning that they impact most
heavily on those with the least ability to pay.
Real Estate Tax
Federal and state governments do not tax real estate. Real estate tax is most
local government's main source of revenue. Most localities tax private
homes, land, and business property based on the property's value (ad
valorem). When real estate is mortgaged, real estate taxes are ordinarily
collected and escrowed monthly by the mortgage lender along with the
mortgages principal and interest payment. The escrowed real estate tax is
then remitted to the taxing authority once a year.
Advantage: This is a progressive tax, which means people with lower
property values pay less in real estate taxes than the wealthy who usually
own property of higher value.
Disadvantage: If re-assessments are not made by the Property Tax Assessor
annually, owners of new homes pay more than those who own older homes
that have appreciated in value over the years.
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Personal Property Tax

Some local governments also assess tax on personal property such as boats,
cars, airplanes, appliances, and furniture.
Advantage: This is a progressive tax. The poor usually pay less in property
tax than the wealthy, because they own less property and property of lower
value, than the wealthy.
Tolls and Permits
These are use fees for such public services as highways, parking lots and
public parks.
Advantage: Tools and permits place the burden of paying the tax only on
the people who use the services. Revenue from tolls is often used to build
and maintain highways and bridges and only people who drive on those
highways and bridges pay the tax.
Disadvantage: Tolls and permits are considered regressive, meaning that
they impact most heavily on those with the least ability to pay.
Estate, Gift and Inheritance Taxes
Estate tax is imposed on the entire estate of the individual. Inheritance tax is
imposed on the transfer of property after the owner's death. Under the
inheritance tax system, the beneficiary of the property must pay the tax. A
gift tax is levied on large gifts from one individual to another, usually parent
to child. The federal government has an estate tax and a gift tax. Many
states have some type of inheritance tax.
Advantage: Estate, inheritance or gift taxes are progressive since they are
levied only on those whose wealth has increased.
Disadvantage: Death taxes sometimes require the sale of some or all of the
property to pay the taxes.
Tariffs
Tariffs are taxes that governments levy on imports and exports. The tariff is
usually paid by the person or vendor doing the importing and passed on to
the consumer.
Advantage: Tariffs make foreign goods more expensive, thus making
American made items more attractive.
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Disadvantage: Tariffs are regressive, meaning that they impact most heavily
on those with the least ability to pay.
Value Added Tax (VAT)
Value Added Tax is similar to a sales tax. However it is a tax on the
estimated market value added to a product or material at each stage of its
manufacture, production or distribution. As with a sales tax, a VAT is
ultimately passed on to the consumer. The consumer is often unaware
exactly how much VAT is built into the price they pay for a product.
Conversely, the consumer can see the amount of sales tax charged on their
sales receipt. VAT allows countries to collect tax from foreign consumers
when they purchase exported products. Of 192 countries, only 62 have an
income tax, yet 132 have a VAT.
VAT is becoming increasingly attractive since there are few other revenue
raising options. Politically however, VAT poses some major obstacles.
Conservatives perceive a VAT as a hidden tax which can be raised without
the knowledge of the consumer. Liberals see a VAT as a highly regressive
tax which hits low and middle income taxpayers more severely.
Advantage: VAT is collected by the business, making it easy for
governments to track and collect.
Disadvantage: VAT is regressive, meaning that it impacts most heavily on
those with the least ability to pay.

IMPORTANT REMINDERS

Take the Quiz - Taking each lesson's quiz promptly after lesson
completion will help you solidify you're understanding of the
most important lesson content, and will also help you pass the
Final Exam.
Do the Homework - While completing the homework is not
mandatory, we strongly recommend that you complete each
lesson's homework assignment. It will expand your knowledge
and understanding of the topics covered in this course.

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Glossary
10-Year Averaging - a special computation method to determine the tax on a qualified lump-sum
distribution for taxpayers born before 1936.
Accelerated Cost Recovery System (ACRS) - the system of depreciation mainly used for property
placed in service after 1980 and before 1987. The Modified Accelerated Cost Recovery System
(MACRS) replaced ACRS for assets placed into service after 1986.
Accelerated Depreciation method(s) of depreciation that yield larger tax deductions in the earlier
years of the life of an asset and smaller deductions at the end.
Accountable Plan - a plan for reimbursing employees for expenses such as meals, travel, and
transportation incurred for business purposes on behalf of the employer. Reimbursements are not
taxable and expenses are not deductible to the employee.
Accounting Method - a method under which income and expenses are determined for tax purposes.
Most individuals and small businesses use the cash method. Businesses that maintain inventory are
required to use the accrual method.
Accounting Period - the period (normally a calendar year) that a taxpayer uses to determine federal
income tax liability.
Accrual Method of Accounting a method by which income is reported in the tax year earned,
whether or not received, and deductions are claimed in the tax year incurred, whether or not paid.
Acknowledgement (ACK) - an official electronic notice from the IRS or a State tax authority that
evidences an electronically filled tax return was accepted and considered filed or rejected and
considered not filed.
Acquisition Debt - debt incurred to acquire, construct, or improve the taxpayer's principal or second
residence.
Active Participant - a taxpayer who is covered by an employer-maintained qualified retirement plan,
or a qualified self-employed retirement plan.
Active Participation - the level of involvement in the management of residential rental real estate
that allows the owner to deduct up to $25,000 annually of losses from the rental of the property.
Actual Expenses the regular method of deducting automobile expenses based on actual costs
incurred.
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Additional Child Tax Credit an additional credit for taxpayers with three or more qualifying
children who cannot take the full Child Tax Credit.
Adjusted Basis - the cost or other original basis of property reduced by depreciation allowed or
allowable and casualty losses, and increased by the cost of capital improvements, expenses of
purchase, and other adjustments. Used to determine the gain or loss upon the sale of the asset.
Adjustment to Income expenses that are subtracted from gross income to arrive at adjusted gross
income.
Adjusted Gross Income (AGI) - gross income reduced by adjustments to income.
Adoption Credit a nonrefundable credit for qualified adoption expenses incurred for each eligible
child.
Adoption Taxpayer Identification Number (ATIN) - the taxpayer identification number used for a
child while the child's adoption is pending.
Alternative Minimum Tax (AMT) a mandatory alternative method of computing tax which negates
or minimizes the effects of tax preference items and tax loopholes.
Alien - a person who is not a citizen of the country in question.
Amended Return - a tax return filed on Form 1040X used to correct errors or to claim more
advantageous ways of filing the prior original return.
Amortization - a deduction for certain capital expenses over a fixed period of time. Similar to
depreciation.
Amount Due - money that taxpayers must pay to the government when the total tax on their return
is greater than their total withholding and estimated tax payments.
Applicable Federal Rate (AFR) - a minimum interest rate that must be charged on transactions that
involve payments over a number of years. If the parties do not adhere to this rate the IRS imputes it.
At-Risk Rules rules limiting the amount of losses a taxpayer can claim on a business or investment
to the amount he actually has at risk to lose.
Audit - an IRS examination and verification of a taxpayer's return or other transactions.

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Authorized IRS e-file Provider - a business authorized by the IRS to participate in the IRS e-file
Program.
Average Basis - a method of figuring basis that can be used only for sales of regulated investment
company (including mutual fund) shares.
Backup Withholding - a 28% tax withheld by the payer from investment income, such as interest and
dividends, to ensure that tax is collected on the income.
Bank Denial - a Refund Anticipation Loan (RAL) denial by a bank.
Bank Product - a RAL, Instant Loan, or Preferred Electronic Refund Check (PERC).
Basis - the amount of the taxpayers adjusted cost in an asset from which gain or loss is determined
for income tax purposes when the asset is sold.
Blind - for tax purposes, a taxpayer is blind if his vision with corrective lenses is no better than 20/200
in his best eye, or if he has a visual field not greater than 20 degrees.
Boot - cash or other property used in a sale or exchange to make the values of property traded equal.
Cafeteria Plan an employer plan that allows employees to select from a menu of taxable and
nontaxable benefits.
Capital Asset - an asset owned for investment or personal purposes, such as stocks and bonds.
Capital Expenditure - an expenditure made for an asset, with a useful life of more than one year, that
increases its value or extends its useful life.
Capital Gain - a gain from the sale or exchange of a capital asset.
Capital Gain Distributions ordinarily, amounts paid by a mutual fund resulting from the sale of
capital assets by the fund.
Capital Improvement - an improvement made to extend the useful life or add to the value of a
property.
Capital Loss - a loss from the sale or exchange of a capital asset.
Capital Loss Carryover - the amount of a capital loss not allowed as a deduction against ordinary
income in the current year and carried over to the next year.

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Capitalize - to record an expense as an addition to an asset account and depreciate it, rather than
treating it as a deductible expense in the current year.
Carry Back - to use deductions or credits that cannot be taken in the current year to reduce tax
liability for a prior year(s).
Carry Forward to use deductions or credits that cannot be taken in the current year to reduce tax
liability for a later year(s).
Cash Method of Accounting a method of accounting under which income is reported in the tax
year actually or constructively received and expenses are deducted in the tax year paid.
Casualty Loss - the complete or partial destruction of property resulting from an identifiable event of
a sudden, unexpected, or unusual nature.
Certified Historic Structure - a structure listed on the National Register of Historic Places or located
in a designated historic area. The tax code provides tax incentives for the rehabilitation of such
structures.
Certified Public Accountant (CPA) - a person who has met state requirements for education and
work experience, passed a national exam, and met other licensing requirements.
Change in Accounting Method - a change from one accounting method to another, which ordinarily
requires prior approval from the IRS.
Change in Accounting Period - a change from one accounting period to another.
Charitable Contributions tax deductible money or property donated to a qualified tax-exempt
charitable organization.
Charitable Organization - a tax-exempt organization recognized by the IRS as a charity.
Child Tax Credit - A credit of up to $1,000 per eligible child under age 17 at the end of the tax year.
Child and Dependent Care Credit - a tax credit of 20-35 percent of employment-related child and
dependent care expenses incurred to enable the taxpayer to be gainfully employed.
Citizen or Resident Test - a test that allows taxpayers to claim a dependency exemption for persons
who are U.S. citizens for some part of the year or who live in the United States, Canada, or Mexico for
some part of the year; or an alien child whom you have adopted and who lived with you for the entire
year.

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Combat Zone - a geographical area designated by the president of the United States from which
members of the armed forces can exclude military pay from their income tax return.
Common-Law State - a state in which the laws governing property rights are based on English
common law under which the property and income of each spouse belongs to him or her separately.
Community Income - income of a married couple in a community property state, that belongs
equally to each spouse, regardless of which spouse earned or received the income. The community
property states are Arizona, California, Idaho, Louisiana, New Mexico, Nevada, Texas, Washington, and
Wisconsin.
Community Property property of a married couple in a community property state, that belongs
equally to each spouse.
Compulsory Payroll Tax - an automatic tax collected from employers and employees to finance
specific programs.
Constructive Receipt a tax rule that states the taxpayer receives taxable income when it is made
available to him, regardless of whether he actually takes possession of it.
Cost - cash and/or the value of property paid to acquire the property received.
Cost of Goods Sold the cost of obtaining and producing goods sold in a business.
Coverdell Education Savings Account (ESA) - a tax-favored educational savings plan.
Credits tax credits are similar to credits from a retail store, which are subtracted from tax liability.
Crop Method - a form of accounting used by farmers under which they deduct the entire cost of
producing a crop, including the expense of seed and young plants, in the year they realize income
from it.
Declaration Control Number (DCN) - a 14-digit number assigned by 1040 ValuePak to each
electronically filed return, which is used by the IRS or state tax authority to track the return.
Declining Balance Method of Depreciation - an accelerated method of depreciation under which
the depreciable basis for the following year is reduced by the depreciation deduction taken in the
current year.
Deduction - expenses that may be subtracted from taxable income.

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Deferred Compensation a plan that allows an employee to receive part of a year's pay in a later
year and not be taxed in the year the money was earned.
Deficiency - the difference between the amount reported on a tax return and the amount assessed
by the IRS.
Deficit - the result of a government spending more money than it takes in.
Defined Benefit Plan - an employer-provided retirement plan in which contributions are based on
the retirement benefits to be paid.
Defined Contribution Plan an employer-provided retirement plan in which contributions are based
on a specific percentage of income.
Dependent - a qualifying child or relative, other than the taxpayer or spouse, who entitles the
taxpayer to claim a dependency exemption.
Dependent Exemption the amount a taxpayer can claim for a "qualifying child" or "qualifying
relative".
Depletion - a method similar to depreciation that allows the owner of natural resources to deduct a
portion of the cost of the asset during each year of its presumed productive life.
Deposit Account Number (DAN) - the deposit account number for a checking or savings account.
Depreciable Property - property with a useful life of more than one year that is used for your trade
or business.
Depreciation - the deduction for the reasonable allowance for the wear and tear of assets with a life
of more than one year used in a trade or business or held for the production of income.
Direct Deposit an electronic transfer of a tax refund directly into the taxpayer's bank account.
Disability Pension - a taxable pension from an employer-funded disability plan received by a
taxpayer who retired on disability and has not reached normal retirement age.
Disaster Area Loss - an un-reimbursed loss of property sustained in an area designated as a disaster
area by the President of the United States.
Disposition a sale or other disposal of property that causes a gain or a loss, including like-kind
exchanges and involuntary conversions.

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Distribution - money or property a taxpayer receives from a retirement plan.

Dividend - a stockholder's share of the profits of a corporation.
Drain Times - cut-off times established by each IRS Service Center for processing electronically filed
returns.
Dual-status Taxpayer - an alien who is a resident part of the tax year and a nonresident the other
part of the tax year.
Early Withdrawal Penalty a penalty paid for withdrawing money from a savings plan, such as a
certificate of deposit (CD), before its maturity date.
Earned Income income for services rendered (i.e. wages, salaries, tips, and net earnings from selfemployment) versus income generated by property or other sources.
Earned Income Credit a refundable tax credit for certain low-income taxpayers who work, meet
certain requirements, and have earned income under a specified limit.
Education Expense - an expense that is eligible for an education tax deduction or credit.
Education IRA a type of savings plan for education expenses.
Electronic Filing (e-file) - the transmission of tax return information to the IRS using computers and
the Internet.
Electronic Filling Identification Number (EFIN) - a unique six-digit number assigned to a business
by the IRS so that the business can file tax returns electronically.
Electronic Return Originator (ERO) a tax preparer that originates the electronic submission of
income tax returns to the IRS.
Employer Identification Number (EIN) - a nine-digit number assigned by the IRS for businesses,
estates, and trusts.
Employment Expenses - ordinary and necessary expenses required to perform the duties for which
the taxpayer is employed.
Energy Tax Credit--Business Property a tax credit allowed for the purchase of certain business-use
property utilizing solar, geothermal, biomass, coal and gasification energy.

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Energy Tax Credit--Residential Property - a tax credit allowed for the purchase of certain qualified
energy efficiency improvements (i.e. insulation, exterior windows, and exterior doors) and residential
energy property costs (i.e. qualified furnaces, water heaters, and heat pumps) and the cost of qualified
photovoltaic property, solar water heating property, and fuel cell property.
Entertainment Expenses - expenses which are deductible by employees and self-employed
taxpayers only if the expenses are directly related to or associated with a trade, business, or
profession.
Estate Tax - a tax based on the fair market value of the decedent's property at death, less his or her
liabilities.
Estimated Tax - quarterly tax payments paid to the IRS on April 15, June 15, September 15, and
January 15 if the total year's taxes will exceed $1,000 and the amount is not covered by withholding.
Excess Accelerated Depreciation - the difference between the total depreciation taken and the
depreciation that would have been taken using the straight-line depreciation method.
Excess Social Security Tax Withheld excess amounts withheld by multiple employers of the
taxpayer.
Excise Tax - a tax on the sale or use of specific products, transactions or property.
Exempt from Withholding to be free from withholding of federal income tax a person must meet
certain income, tax liability, and dependency criteria.
Excludable Amount of Pension - the portion of pension distributions that is not taxable.
Exemption - an deduction taxpayers can claim for themselves, their spouses, and eligible dependents
which reduces income subject to tax.
Expensing a term used when a taxpayer claims the Internal Revenue Code (IRC) Section 179
expense deduction and currently deducts certain expenditures that would ordinarily be required to be
depreciated.
Extension - a allowance of additional time to perform an act required by the tax law or by regulation.
Fair Market Value (FMV) - the amount at which property would change hands between a willing
buyer and a willing seller, neither being under compulsion to buy or sell and both having reasonable
knowledge of the relevant facts.
Federal Income Tax a tax levied on personal and corporate income.
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Federal Income Tax Withheld - the amount withheld from income and submitted by the payer to
the IRS as an advance payment of the taxpayer's federal income tax.
Federal Insurance Contributions Act (FICA) - a federal law that requires taxpayers to pay Social
Security taxes for Old-Age, Survivors and Disability Insurance (OASDI), and Medicare.
Federal Unemployment Tax Act (FUTA) - a cooperative effort between 53 possessions and states,
and the federal government for the administration of unemployment insurance. The IRS is responsible
for receiving and processing the Employers Annual Federal Unemployment Tax Return (Form 940).
Filing Extension - an additional amount of time to file a tax return.
File a Return - to mail or electronically transmit to an IRS service center the taxpayer's information, in
specified format, about income and tax liability.
Filling Center the computer data center which transmits electronically filed tax returns to the
appropriate IRS Service Center, as well as bank applications to the appropriate RAL bank, and sends
acknowledgements and other reports back to the Electronic Return Originator.
Filing Status - the five filing statuses are: single, married filing a joint return, married filing a separate
return, head of household, and qualifying widow(er) with dependent child.
Final Return for Decedent a tax return filed for the year in which the individual died.
First In, First Out (FIFO) a method of valuing inventory that assumes any inventory sold was from
the first inventory purchased.
First-year Expensing - a term used when a taxpayer claims the Internal Revenue Code (IRC) Section
179 expense deduction and currently deducts certain expenditures that would ordinarily be required
to be depreciated.
Fiscal Year - an accounting year ending on the last day of any month except December.
Fixing-up Expenses - expenses incurred to physically prepare a home for sale.
Flexible Spending Account - a method of paying for benefits under a cafeteria plan through salary
reductions.
Financial Management Service (FMS) - a bureau of the Department of the Treasury that provides
central payment services to federal agencies, operates the federal government's collections and

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deposit systems, provides government wide accounting and reporting services and manages the
collection of delinquent debt owed to the government.
Foreign Child - a child who is not a U.S. citizen or resident.
Foreign Earned Income Exclusion an amount of income that the taxpayer can exclude from
taxable income if he lived and earned income in a foreign country.
Foreign Housing Exclusion and Deduction - an exclusion or deduction available if the taxpayer lived
and earned income outside the United States and either his employer paid for his housing or he was
self-employed.
Foreign Tax Credit or Deduction - a credit or deduction available to a taxpayer who incurs or pays
income tax to a country other than the U.S., on income that is also subject to U.S. income tax.
Form 8633 the Application to Participate in the IRS e-file Program, which must be filed by anyone
who wants to participate in the IRS Electronic Filing program. Upon IRS acceptance the tax preparer is
assigned an EFIN.
Form 8879 - a form that allows taxpayers and preparers to sign a tax return using an electronic
signature by entering a five-digit PIN.
Form W-2 - the form employers send to workers and the IRS at the end of the year to report annual
wages, taxes withheld and other information.
Form W-4 the Employee's Withholding Allowance Certificate which is completed by the employee
and used by the employer to determine the amount of income tax to withhold from each paycheck.
Forms Method - a method of completing a tax return in 1040 ValuePak by completing the electronic
versions of the IRS forms and schedules.
Foster Child - a child placed with a taxpayer by an authorized placement agency or by court order.
Fringe Benefits - benefits received by an employee in addition to salary.
Full-Time Student - a dependent enrolled in a school for the number of hours or courses considered
by the school to be full-time during some part of at least 5 calendar months during the year.
Gain - the excess of the amount realized from a sale or exchange above the adjusted basis of the
property sold or exchanged.

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Gain or Loss - the difference between the basis in an asset and the price received upon disposal of
the asset.
Gambling Income and Losses - income and losses from gambling, such as lotteries, bingo and racing.
General Depreciation System - the most commonly used method for computing MACRS
depreciation.
General Rule - the method of determining the taxable part of a pension when the taxpayer is not
eligible to use the simplified method.
Generation-Skipping Transfer Tax - a tax on gifts or death transfers of money or property that
would otherwise escape the once-per-generation transfer taxes that apply to gifts and estates.
Gift Tax a federal excise tax paid by donors on the value of gifts exceeding a specified amount.
Goodwill the value of a trade or business based on expected continued customer patronage due to
its name, reputation, and other factors.
Gross Dividends - the sum of ordinary dividends, capital gains distributions and nontaxable
distributions received during the tax year.
Gross Income total worldwide money, goods, services, and property a person receives that must be
reported on a tax return unless specifically exempt or excluded by law.
Gross Income Test - one of five tests that must be met for a taxpayer to claim someone as his or her
dependent.
Gross Receipts - the total of sales for a business during the year.
Head of Household Filing Status a filing status used by an unmarried taxpayer who pays over half
the cost of maintaining a home that is the principal residence for over half the tax year of his
qualifying child or a qualifying relative.
Hobby Loss - a nondeductible loss arising from a personal hobby which was not pursued for profit.
Holding Period - the period of time property has been owned for income tax purposes.
Home Equity Debt - debt secured by a principal residence or second home that does not include the
original acquisition debt.
Home Office - part of a home or other structure for which the taxpayer qualifies to take a deduction
for its business use.
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Hope Scholarship Credit - a nonrefundable credit for tuition and fees paid for the first two years of
post-secondary education.
Household Employee - an individual who performs non-business services for a taxpayer in or around
the taxpayer's home.
Improvements - the expenses of permanently upgrading property versus maintaining or repairing it.
Imputed Interest - interest the IRS assumes has been paid on a loan if the stated interest is below
the minimum Applicable Federal Rate.
Inclusion Amount the amount a taxpayer must add back to income if the fair market value of his
leased car is above a certain amount.
Income - a gain derived from capital, labor, or a combination of the two.
Income Averaging - a method by which farmers may reduce tax liability by computing their income
tax as if their current farm income had been spread evenly over the preceding three years.
Income in Respect of a Decedent (IRD) - income a decedent earned or was entitled to receive
before death.
Income Taxes - taxes on both earned income (salaries, wages, tips, commissions) and unearned
income (interest, dividends).
Individual Retirement Arrangement (IRA) - a trust account established to receive retirement
contributions of individuals.
Individual Taxpayer Identification Number (ITIN) a taxpayer identification number for persons
(usually aliens) who do not qualify for a Social Security number.
Inflation a simultaneous increase in consumer prices and decrease in the value of money.
Information Returns forms such as Form W-2 and 1099, which report income and property
transactions to the IRS.
Innocent Spouse Rule - an exception to the general rule, under which a spouse may claim to not be
jointly liable if he or she did not know about errors in a tax return and did not benefit from them.
Installment Method - a method enabling a taxpayer to spread the recognition of gain on the sale of
property over the payment period.
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Instant Loan - an immediate loan made by a RAL bank before the IRS has acknowledged the return,
for a portion of a taxpayers anticipated refund amount.
Interest Expense - the amount paid for borrowing money.
Interest Income - the amount received for lending money.
Internal Revenue Service (IRS) - a division of the U.S. Treasury Department responsible for collecting
taxes.
Inventory - items acquired for sale to customers in the regular course of a taxpayer's trade or
business.
Investment Interest Expense - deductible interest paid on funds borrowed for investment purposes,
which is limited to income generated from the investments.
Investment Income - interest, dividends, capital gains, certain rent and royalty income, and net
passive activity income.
Investment Tax Credit - tax credits which are allowed for rehabilitating a building or investing in
energy property for business purposes.
Involuntary Conversion a forced disposition of property due to a casualty, theft, condemnation or
the threat of condemnation.
IRS e-file - the preparation and transmission of tax return information to the IRS using a computer
and the Internet.
Itemized Deductions - personal expenses allowed by the Internal Revenue Code as deductions from
adjusted gross income.
Joint Return - a return combining the income, exemptions, credits, and deductions of a husband and
wife.
Joint Return Test - one of the five tests a person must pass to qualify as the taxpayers dependent
requiring that the person must not file a joint tax return with his or her spouse for the tax year in
which the taxpayer claims the person as a dependent.
Joint Tenancy a form of joint ownership under which two or more individuals each has an
undivided interest in the entire property.

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Jointly Owned Property - property held in the name of more than one person.
Keogh Plan - a pension or profit-sharing retirement plan available to self-employed individuals and
their employees.
Kiddie Tax - the popular name for a 1986 law enacted to prevent parents from escaping taxes by
putting money in their children's names.
Last In, First Out (LIFO) a method of valuing inventory that assumes any inventory sold was from
the last inventory purchased.
Legally Separated - married couples living apart under a court order or separate maintenance
agreement.
Lien for Taxes - a lien on the property of a taxpayer who is delinquent in the payment of amounts
owed to the IRS.
Lifetime Learning Credit - a nonrefundable tax credit of a portion of qualified post-secondary higher
education tuition and fees paid on behalf of the taxpayer, his or her spouse, or his or her dependents.
Like-Kind Exchange - a tax-deferred exchange of similar property used in a trade or business or held
for investment, not including securities and other indebtedness or interests such as stocks and bonds.
Listed Property - passenger autos and other property used for transportation, property generally
used for purposes of entertainment, recreation, or amusement, computers, cellular telephones, and
other property specified by the IRS for which special rules apply to depreciation.
Long-Term Capital Gains and Losses - gains and losses on the sale or exchange of capital assets
that have been held for more than 12 months.
Lump-Sum Distribution - the payment of the entire balance in an individual's employer-provided
retirement plan account in one calendar year.
Luxury Automobile Limits - limits on the amount of depreciation that can be taken annually on an
automobile used for business purposes.
Luxury Tax - a tax paid on expensive goods and services considered by the government to be
nonessential.
Marital Deduction - a deduction that allows a taxpayer to transfer assets to his spouse estate and
gift tax free.

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Married Filing Jointly Filing Status - a filing status that can be used by taxpayers who are married at
the end of the tax year.
Married Filing Separately Filing Status - a filing status that can be used by married taxpayers who
choose to declare their individual incomes, deductions, and credits on separate individual tax returns.
Material Participation a test used to determine if the taxpayer worked and was involved in a
business activity on a regular basis or if he was only an investor
Meals and Entertainment - expenses that may be 50% deductible in a business, such as the cost of
taking a client to a restaurant or a sporting event.
Medical Expenses - the reasonable and necessary un-reimbursed expenses relating to health care
(doctors, dentists, hospitals, prescriptions) for the taxpayer and his dependents.
Medical Savings Account (MSA) - a tax-exempt trust or custodial account established to save
money exclusively for future medical expenses that are not covered by health insurance.
Medicare Part A coverage for hospital and nursing home care.
Medicare Part B - coverage for a portion of doctor bills and outpatient services. The premium is
withheld from social security benefits and deductible on Schedule A.
Medicare Tax a tax used to provide medical benefits for workers, retired workers, and the spouses
of workers and retired workers that are eligible to receive Medicare benefits upon reaching age 65.
Medicare Tips - tips reported to an employer by an employee which are subject to Medicare Tax
withholding.
Medicare Wages - wages paid to an employee that are subject to Medicare tax not including
Medicare Tips, which are reported separately.
Miscellaneous Itemized Deductions - deductions reported on Schedule A which are usually jobrelated expenses or investment expenses.
Modified AGI (MAGI) - a figure used to calculate the limit on an exclusion or deduction.
Modified Accelerated Cost Recovery System (MACRS) - the depreciation system used for most
property, other than real estate, placed in service after December 31, 1986.

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Mortgage Interest Credit - a certificate from a state or local government in connection with a new
mortgage for the purchase of a main home entitling taxpayers to claim a credit for a percentage of
their home mortgage interest.
Mortgage Interest Expense - interest paid on a loan secured by a home that is fully deductible up to
certain limits.
Moving Expenses - an adjustment to income permitted to employees and self-employed individuals
who move for work-related reasons, provided certain requirements are met.
Multiple Support Agreement a legal document that states who can claim a person as a dependent
when two or more people provide more than half of a dependent's support.
Net Operating Loss (NOL) a net loss for the year attributable to business or casualty losses
because expense deductions are more than income for the year.
Nominee Dividends - dividends received on behalf of another person.
Nominee Interest - interest received on behalf of another person.
Non-custodial Parent - the parent who does not have physical custody of the child, or who has
custody for the smaller part of the year.
Nonrefundable Credit - a credit that cannot exceed the taxpayer's tax liability.
Nonresident Alien - a person who is not a U.S. citizen and either does not live in the United States, or
lives in the United States and does not have a green card or meet the substantial presence test.
Nontaxable Distributions - stock dividend distributions that are not paid from earnings and are not
taxable - such as a return of capital, stock splits, and/or tax-free distributions.
Nontaxable Income - income that is exempt from tax by law.
Open Year - a tax year for which the statute of limitations has not yet expired.
Ordinary and Necessary Business Expenses - expenses that are fully deductible as current expenses,
as opposed to unnecessary expenses or capital expenditures.
Ordinary Dividends - fully taxable dividends that are distributions of a company's profits.
Ordinary Income - income that does not qualify as a capital gain, such as wages, interest, dividends
and net income from a business.
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Ordinary Loss - a loss that is not a capital loss and that is fully deductible against ordinary income.
Original Issue Discount (OID) a discount that occurs when a bond is issued for a price less than its
face amount or principal amount.
Parsonage Allowance - a housing allowance for clergy, designated by the church or other employer
organization, for the expenses of providing and maintaining a home.
Passive Activity - an activity in which the taxpayer does not materially participate.
Passive Income - income from business activities in which the taxpayer does not materially
participate including most real estate rental activities.
Passive Loss losses from business activities in which the taxpayer does not materially participate.
Payment-in-Kind Wages wages paid to farm employees in the form of farm commodities, such
as livestock or food, instead of cash.
Payroll Tax - a tax based on wages, tips and salaries paid such as Social Security Tax, Medicare Tax,
unemployment compensation, workers compensation insurance and local transit.
Permanent and Total Disability - a disability that prevents an individual from engaging in any
substantial gainful activity because of a medically determined physical or mental impairment that is
expected to result in death, or that has lasted or is expected to last for a continuous period of not less
than 12 months.
Personal Exemption exemptions for the taxpayer and his spouse.
Personal Identification Number (PIN) - a five-digit self-selected number which allows taxpayers to
"sign" their tax returns electronically and ensures that electronically submitted tax returns are
authentic.
Physical Presence Test - one of the two residency tests a taxpayer can meet to qualify for the
Foreign Earned Income Exclusion and the Foreign Housing Exclusion and Deduction.
Placed in Service - the date an asset is ready for use for business purposes, which is usually the date
of purchase and which is used as the starting point for depreciation.
Points a loan-origination fee that a borrower may deduct as interest expense under certain
circumstances.

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Portfolio Income - income such as interest, dividends, royalties, and gains or losses from
investments.
Power of Attorney - a legal document authorizing one person to act as another person's attorney or
agent.
Practitioner PIN - allows the Electronic Return Originator to sign a tax return using an electronic
signature by entering a five-digit PIN.
Preferred Electronic Refund Check (PERC) a quick and cost-effective way for taxpayers to receive
their tax refunds - usually in 7 to 14 days without paying any tax preparation fees up front.
Premature Distribution - a withdrawal from a qualified retirement plan before age 59 1/2.
Principal Place of Business - the main place where work is performed or business is transacted,
determined by how much of a taxpayers working time is spent there and the importance of the work
done there.
Principal Residence - generally the home in which a taxpayer lives most of the time, which can be a
house, condominium, cooperative apartment, townhouse, mobile home, or houseboat.
Profit-Sharing Plan a plan for distributing a predetermined percentage of a company's profits to
its employees' accounts.
Progressive Tax - a tax that takes a larger percentage of income from high-income groups than from
low-income groups.
Property Taxes - a tax levied by local governments, based on the value of property owned.
Publication 1345 - Handbook for Electronic Return Originators of Individual Income Tax Returns,
which provides information on electronic filing requirements and restrictions.
Publication 1345A - Filing Season Supplement for Authorized IRS e-file Providers, which is a
supplement to IRS publication 1345 that lists all IRS rejection codes for electronically filed returns.
Qualified Adoption Expenses - reasonable and necessary expenses for adopting a child, including
such expenses as adoption fees, attorney fees, and other expenses, but not including expenses paid
for a surrogate parenting arrangement or expenses paid to adopt a spouse's child.
Qualified Charitable Organization - usually an association or nonprofit corporation designed to
provide some form of public service and specifically approved by the U.S. Treasury as a recipient of
tax deductible charitable contributions.
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Qualified Pension or Profit-Sharing Plan - an employer-sponsored plan that meets the

requirements of IRC Section 401 - such as who must be covered, the amount of benefits that are paid,
information that must be given to plan participants, etc.
Qualified Retirement Plan - a retirement plan approved by the IRS that allows for tax-deferred
accumulation of investment income.
Qualifying Child - a child who meets five tests: (1) Relationship, (2) Age, (3) Residency, (4) Support,
and (5) Special test for qualifying children of more than one person.
Qualifying Relative a relative who meets four tests: (1) Not a qualifying child, (2) Member of
household or relationship, (3) Gross income, and (4) Support.
Qualifying Widow(er) Filing Status - a filing status taxpayers may be able to use for two years after
the year a spouse died, allowing the taxpayer to use the same rates as if filing jointly.
Railroad Retirement Tax Act - the law that provides for railroad retirement benefits.
RAL Bank - a provider of bank products to taxpayers, for the electronic filing industry.
Real Estate Professional - a person who meets the qualifications to treat rental real estate losses as
non-passive losses and to use the losses to offset non-passive income.
Realized Gain or Loss - the difference between the amount received upon the sale or other
disposition of property and the adjusted basis of the property.
Recapture of Depreciation - inclusion of part or all of the depreciation deducted in prior years in this
year's taxable income.
Recapture - the reversal of a tax benefit if certain requirements are not met in future years.
Recognized Gain or Loss - the amount of gain or loss reported for income tax purposes.
Refund - money owed to taxpayers when their total tax payments are greater than the total tax.
Refundable Credit - a credit which is not limited by the amount of total tax and for which the IRS will
send the taxpayer a refund for any amount in excess of the taxpayer's tax liability.
Refund Anticipation Loan ( RAL) a fast way for taxpayers to receive money based on their
anticipated refund amount.

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Regular Method - a deduction for business use of the taxpayer's vehicle based on actual cost of gas,
oil, repairs, tires, parking, etc. plus depreciation.
Relationship or Member of Household Test - one of the five tests to determine if the taxpayer can
claim someone as a dependent.
Resident Alien a permanent resident, but not a citizen, of the United States.
Return of Capital - a distribution received from an investment that is not income, but rather a return
of a portion of the original investment.
Rollover a tax-free transfer of an employer plan distribution to another employer plan or to a
traditional IRA, or the tax-free transfer from one IRA to another or to an eligible employer plan within
60 days.
Roth IRA a retirement account which features non-deductible contributions on which earnings
grow tax free and qualified withdrawals are also tax free.
Routing Transit Number (RTN) - a unique nine-digit identification number for a bank.
Royalty Income - payments for using of certain kinds of property, such as artistic or literary works
and patents.
S Corporation - a type of small business corporation with no more than 100 shareholders that elects
not to be taxed as a corporation and that generally pays no tax. Instead, shareholders of an S
corporation report their share of the corporation's income, gain, losses, and credits on their individual
returns.
Safe Harbor - tax regulations that allow a simpler method of determining a tax consequence than is
available following the precise language of the Code or regulations.
Salvage Value - the estimated amount an asset could be sold for at the end of its useful life.
Savings Incentive Match Plan for Employees (SIMPLE) - a simplified retirement plan that allows
employees of 100 or fewer employee businesses and self-employed individuals to make salaryreduction contributions to a retirement plan either one similar to a 401(k) plan or one that funds
IRAs for employees.
Schedules - official IRS forms used to report various types of income, deductions, and/or credits.
Section 1231 Gain or Loss - a net section 1231 gain is treated as long-term capital gain and a net
section 1231 loss is treated as an ordinary (fully deductible) loss.
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Section 1231 Property - depreciable assets and real estate used in a trade or business and held for
more than one year, such as equipment, vehicles and rental real estate.
Section 1245 the section of the IRC that requires that when depreciable personal property, such as
business equipment and vehicles, are sold, gain must be recaptured as ordinary income up to the
amount of depreciation claimed.
Section 1250 - the section of the IRC that requires that when real property is sold, gain must be
recaptured as ordinary income up to the amount of depreciation claimed in excess of straight line
depreciation.
Section 179 Expense Deduction - a deduction allowed for up to the entire cost of certain
depreciable business assets, other than real estate, in the year purchased, which can be used as an
alternative to depreciating the asset over its useful life.
Section 457 Plan a deferred-compensation plan for employees of state and local governments and
tax-exempt organizations that allows for tax deferral of salary.
Self-Employment Tax - Social Security and Medicare tax paid by self-employed individuals on the
net income from their trade or business.
Separate Maintenance Payments - amounts paid to one spouse by the other under a court order or
agreement while they live apart.
Series EE Bonds - U.S. Savings Bonds issued after 1979.
Short Tax Year - a tax period less than 12 months, resulting from a business start-up or the transition
to a tax year ending on a different date.
Short Term Gain or Loss - gain or loss on the sale or exchange of a capital asset held one year or
less.
Simplified Employee Pension (SEP) - An retirement plan under which an employer makes
contributions to an employee's Individual Retirement Account (IRA), or a self-employed person
contributes to his own plan.
Simplified Method a method of computing the taxable portion of a pension received from a
qualified employer plan.

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Single Filing Status a filing status used if on the last day of the year, the taxpayer is unmarried or
legally separated from his spouse under a divorce or separate maintenance decree and he does not
qualify for another filing status.
Sin Tax - a tax on goods such as tobacco and alcohol.
Social Security Number (SSN) a taxpayer identification number for most U.S. citizens.
Social Security Tax see Federal Insurance Contributions Act (FICA).
Social Security Tips - the amount of tips reported to an employer by an employee that is subject to
Social Security Tax.
Social Security Wages - wages paid to an employee that are subject to Social Security tax.
Special Needs Child - a child determined by the state to be difficult to adopt due to factors such as
racial or ethnic background, age, a condition that requires special care, mental, physical or emotional
handicaps, or whether the child is a member of a minority or sibling group.
Specific Use - a specific use for a power of attorney that is not recorded in the Centralized
Authorization File (CAF). Because the IRS does not record a power of attorney for specific use, the
person to whom you have given power of attorney must bring a copy of the power of attorney to
each meeting with the IRS.
Spousal IRA - an IRA established by a taxpayer whose spouse has little or no compensation - for the
benefit of that spouse.
Standard Deduction an deductible amount provided by the tax law in lieu of itemized deductions.
Standard Mileage Rate - a deductible fixed rate for each mile of qualified use of an automobile,
which is used instead of keeping track of actual costs, such as gas and maintenance..
State Non-Residents - an individual who temporarily resided and/or worked in a state at any time
during the tax year, although that state was not their state of residence.
State Part Year Residents - an individual who was a resident of a particular state for only part of the
tax year.
Statutory Employee - a worker who is treated as an employee for Social Security and Medicare tax
purposes and as self-employed for income tax purposes.

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Step-by-Step Interview - a method of completing a tax return in 1040 ValuePak by answering a

series of simple interview questions.
Straight-Line Depreciation - a method of computing depreciation under which the depreciation
deduction is the same for each full year.
Student Loan Interest Deduction - an adjustment to income for interest paid during the year on
qualified higher-education loans.
SUB Pay - Supplemental unemployment benefits.
Support - costs of food, clothing, shelter, education, medical and dental care, recreation, and
transportation.
Support Test - one of the five tests to see if a taxpayer can claim someone as his dependent.
Tariff - a tax on products imported from foreign countries.
Taxable Income - Adjusted Gross Income reduced by itemized deductions or the standard deduction,
and by allowable personal and dependent exemptions.
Tax - required payments of money to governments.
Taxable Interest Income - interest income that is subject to income tax.
Tax Benefit Rule - a rule that provides that the amount of a deductible expense subsequently
recovered must be included in income in the year of the recovery to the extent the original expense
resulted in a tax benefit.
Tax Bracket - the rate at which income at a taxpayers top level is taxed.
Tax Code - the official body of tax laws and regulations.
Tax Court - the U.S. Tax Court is one of three trial courts of original jurisdiction that decide litigation
involving federal income, death, and gift taxes.
Tax Credit - a dollar-for-dollar reduction in the tax owed.
Tax Cut - a reduction in the amount of taxes taken by the government.
Tax Deduction a personal or business expense that reduces income subject to tax.

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Tax Deferral - the postponement of taxes to a later tax year, usually accomplished by recognizing
income or a gain at a later time.
Tax Evasion - a failure to pay or a deliberate underpayment of taxes.
Tax-Exempt Income - income that is not subject to federal income tax by law.
Tax-Exempt Interest Income - interest income that is not subject to federal income tax by law.
Tax Exemption - a part of a taxpayers income on which no tax is imposed.
Tax-Free Exchange - transfers of property specifically exempt from federal income tax consequences
in the current year such as like-kind exchanges.
Tax Home - the taxpayers principal place of work or post of duty.
Tax Liability - the amount of tax the taxpayer must pay after deducting any credits and before taking
into account any advance payments such as withholding or estimated tax payments made by the
taxpayer.
Tax Preference Items - items such as accelerated depreciation, percentage depletion or certain taxexempt income that may result in the imposition of the alternative minimum tax.
Tax Rate Schedules - schedules published by the IRS for taxpayers with taxable income of more than
$100,000 to use to compute their income tax.
Tax Return Preparer - a person paid to prepare, review or assist in the preparation of the taxpayers
income tax return.
Tax Shelter - an investment that is designed to result in tax-favored treatment.
Tax-Sheltered Annuity - a retirement plan for employees of tax-exempt organizations and public
schools, also known as a Section 403(b) plan.
Tax Tables tables published by the IRS for taxpayers with taxable income of $100,000 or less to use
to compute their income tax.
Tax Year - the 12-month reporting period for which taxable income is computed.
Taxpayer Identification Number (TIN) in the case of an individual, the individuals Social Security
number. In the case of a business , the Employer Identification Number (EIN).

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TeleTax - a phone number that taxpayers can call to hear recorded information on more than 100 tax
topics.
Third Party Designee an authorization electronically filed with a tax return that authorizes the IRS
to discuss the tax return with a third party.
Tip Income - gratuities received by the taxpayer for services rendered. Tips of $20 or more from any
one job during a calendar month must be reported to the taxpayer's employer.
Traditional IRA an IRA that is not a SIMPLE IRA or Roth IRA - to which an individual makes annual
contributions that may or may not be deductible depending on the individual's income and whether
the individual actively participates in an employer's retirement plan.
Transaction Taxes - taxes on economic transactions, such as the sale of goods and services.
Transmit - to send a tax return to the IRS electronically.
Transmission - the sending and receiving of tax returns, acknowledgements, and other files using
your computer and Internet connection.
Transportation Expenses - the cost of transportation incurred in the course of business or
employment when the taxpayer is not away from home traveling.
Travel Expenses - ordinary and necessary business expenses such as meals, lodging and
transportation expenses while away from home in the pursuit of a trade or business.
Unadjusted Basis - the basis of property used to figure a gain on the sale of the property, but
without reduction for any depreciation deductions.
Underpayment Penalty - a penalty for not paying enough total estimated tax and withholding.
Unstated Interest - interest the IRS assumes has been paid on a loan if the stated interest rate is
below a minimum, called the Applicable Federal Rate (AFR).
Useful Life - the number of years depreciable business property is expected to be productive and in
use.
Vacation Home - a second home used for recreational purposes that may also be rented out at times
to others.
Voluntary Compliance - a system of compliance that relies on individual citizens to report their
income freely and voluntarily, calculate their tax liability correctly, and file a tax return on time.
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Wages - compensation received by employees for services performed.

Wash Sale - the sale and repurchase of stocks or securities within a short period of time - within 30
days before or after the sale.
Welfare to Work Credit - a tax credit for employers who hire workers currently on the welfare rolls.
Withholding - taxes deducted from wages or other income that are deposited in an IRS account.
Withholding Allowance an allowance claimed on Form W-4 for employers to use in calculating the
amount of income tax to withhold from employee paychecks.

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