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What is Income Tax?

Interest earned on bank accounts is generally considered income and subject to tax.
A W-2 wage and tax statement is issued by an employer and states how much an employee was paid in a year.
A form 1040 requires a sworn signature.
In the United States, employers withhold a percentage of a person's paycheck for income tax.
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  • Written By: Michael Pollick
  • Edited By: Lindsay D.
  • Last Modified Date: 20 July 2014
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Almost all governments are funded, at least in part, by some form of taxation on their citizens. Most of these taxes are collected at the time of a sale or service, but others are collected at the end of a 12-month period called a fiscal year. One such yearly levy is the oft-dreaded income tax. This is essentially a bill from the federal and state governments for individual earnings through salaries and investment profits. It is considered a progressive tax because the individual's financial obligation rises with the level of reportable income.

The United States has not always had an official income tax, however. After years of oppression under the thumbs of robber barons and corrupt corporate executives, early 20th century Congressional leaders created a national income tax law in 1914 primarily to force the wealthiest and greediest to pay their fair share. Eventually this reform would trickle down to the middle and lower working classes. Although the tax still remains progressive, many of the wealthiest companies and individuals benefit from a number of legal exemptions.

Thankfully, income tax can only be levied on positive income, not a net loss. The basic tax structure allows individuals to earn a certain amount of non-taxable income. This is generally calculated by the standard deduction amount listed on the federal and state tax forms. If an individual has not earned more than the standard deduction amount (generally a few thousand dollars), then he or she would not owe anything.

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The problem faced by wage earners, however, is that the payroll department is obligated to deduct a set percentage of money from each paycheck for tax purposes. Federal and state income tax is deducted according to a specific calculation based on a wage earner's marital and dependency status. Other payroll deductions are also made to cover Social Security (FICA) contributions, insurance, union dues and any voluntary contributions. The amount collected is later reported on an official tax form called a W-2. Income without such tax deductions may be reported on another form called a 1099.

During tax season, from January to April 14th, individuals must report all of their total income from both wages and profits from investments. The standard deduction is then subtracted from the total and the remainder is considered taxable income. A chart provided with the official 1040 tax forms reveals the actual amount owed to the government. If the amount withheld by the payroll department is higher than this number, the government will issue a refund for the difference. If the W-2 number is lower, then the individual owes more income tax and must pay the Internal Revenue Service.

For most middle class taxpayers, income tax liability runs around 15% of their gross income. Individuals and businesses can legally deduct many expenses related to their occupations, which can significantly reduce this amount. Charitable donations can also be used to offset income tax obligations.

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Discuss this Article

anon240634
Post 6

The purpose of paying income taxes is your duty towards nation and duty towards mankind. --p.varma

anon136230
Post 5

you have to pay income tax to pay for things like roads, public schools, unnecessary wars, firefighters/police, social security, and things like that.

anon87557
Post 4

You are right. Why must we pay the income taxes. Why give money to government?

anon10239
Post 3

It seems to me that there is something wrong with a tax system that is so high it keeps the majority of working Americans from being able to keep enough of their income to save or accumulate wealth. According to the IRS, 80% of Americans make $60,000 or less a year while middle income (financial independence) is approximately $100,000 a year or higher depending on where you live, and the maximum percentage of income tax (usually 30%) is withheld starting at $70,000. It makes you wonder who our people in government are concerned about?

anon5768
Post 1

what is the purpose of paying income taxes?

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