HOYT // FEDTAX // SUMMER 2015
WHY do we have taxes? So gov’t spends $ on:
Local/ City & County level: Public schools (K-12), sanitation, roads
State: Schools (K-12, colleges), prisons, highways
Federal: National defense, social security, poverty programs
HOW is $ for taxes raised?
Local: Property tax, sales tax doesn’t make sense. (People could travel from one county to another too easily, thus avoiding the tax.)
State: 50/50 between income tax/sales tax
§ 9 state w/out income tax: Fla, TX, Nevada, Oregon, New Hampshire (but a huge property tax)
§ Sales tax:
· Easier to enforce than income tax
· But: recessive à poor people pay proportionately more than rich people
o Whereas income tax is a Robin Hood kind of tax.
Federal: Income tax 45%, Corp income tax 11%, social security tax 37%, excise tax 3%.
HISTORY of income tax
Under original Const – head tax (proportionate to population)
1800s-1910: Source of revenue for gov’t came from import tax (customs)
Civil War: Congress passed income tax (temporary)
§ BUT declared unconstitutional by Supreme Court à “Head tax” = in proportion to population
1913: 16th Am – gets rid of head tax (tax can be levied on a state), only very rich (2%) paid income tax of 6%. During WWI taxes increase, estate tax enacted (rich taxed double). 1932: Gift tax (life & death)
1939: 1st IRC (Title 26 of US code – tax statutes organized)
WWII: increase in % population paying taxes (6% à 75%)
1954: IRC reorganized & overhauled
1986: huge amendment – Internal Revenue Code of 1986 as amended. (Reagan)
How a TAX BILL becomes LAW
§ Virginia Plan — original plan for the Const
§ Connecticut Amendment: tax bills can only start in the House, other bills in Senate.
1. Starts in House, drafted by Ways & Means Committee
2. Proposed law goes to House floor, they pass bill
§ House more in touch with the people à House controls taxes, can be voted out sooner.
3. Goes to Senate, new bill drafted by Senate Finance Committee (popular – 19/100 Senators)
4. Proposed law goes to Senate floor (law different from original one was b4 Finance committee)
5. Goes to Joint Committee for reconciliation, draft 1 bill
6. Goes to both House & Senate to approve
7. Goes to President to sign or veto
8. If President signs, then incorporated into Code
What should tax law accomplish – POLICY OBJECTIVES
Adam Smith said there should be four main goals of a tax.
(1) Economic Efficiency – want system that does not affect behavior
§ does interfere with efficient allocation of resources
(2) Equity (fairness) – should be seen as fair by taxpayers à more likely to comply
§ Horizontal equity – 2 people w/ same income should pay the same amount of tax
§ Vertical equity – based on income levels, rich pay more than poor
· Marginal Tax Rate – more u make the higher the rate.
· 2010: INC 35%, LTCG 15%, DIV 15%, 2011: INC 39.6%, LTCG 20%, DIV 39.8%
2013: INC 43.3%, LTCG 23.8%
(3) Simplicity – cheap to collect
§ sales tax & property tax win over income tax (harder to implement)
(4) Specific economic & social objectives
§ smth that could have been accomplished w/ direct spending
§ eg: encourage home ownership, quality childcare for 2 working parents, pick out daycare provider but take tax credit.
TAX EXEMPTIONS/FILING STATUS
AGI (adjusted gross income)
– Standard deduction – 2015 NUMBERS
($6300 single OR married filing separately/ $12,600 married filing jointly/ $9250 for HoH + additional standard deductions if 65+ &/or blind) OR itemize
– personal exemption/dependent exemptions
$4000 single/ $8000 married + # of dependents – QC or QR who must also file their own return
LESS Standard Deduction – limited to greater of $1050 or [Earned Income] + $350, but up to $6300.
= Taxable income
à no need to file if AGI < standard deduction + personal exemption. But you still may want to if you have had money for taxes taken out of your check over the year. Get the money back.
Filing status — (violation of horizontal equity; based on last day of the year)
Single – not 65+ or blind (high tax rate)
Head of household (2/3 – ½ btw MFJ & S)
Married, filing jointly à MFJ (lowest tax rate)
DOMA – marriage btw man & woman – same sex couples can’t file married filing jointly
Married, filing separately à MFS (highest tax rate) (only recommend if divorce not final, especially if you think your spouse is cheating on his taxes.)
Surviving spouse/Qualifying widower à SS / QW (can use MFJ in first year after death, then can use QW for 2 years after IF they have a dependent child that qualifies.)
Head of Household (single/unmarried parent)
QC & QR, but QR cannot be through member-of-HH test, only through relationship test: i.e. cousin or unrelated dependent can never give basis for HoH filing status.
1. Unmarried taxpayer + 2. Maintaining a HH where you live w/ dependent(s) – must live together, must be principle home of the dependent (a qualifying child or qualifying relative who meets the relationship test) [ie. pay more than ½ cost for appt/house].
EXCEPTION to Unmarried:
Abandoned spouse – other spouse not home for last 6 months of the year; and the one who has the home has a dependent child, not a dependent relative (Otherwise, would have to file MFS) (Spouse who left must file a MFS).
EXCEPTION to Lives – Dependent parent does not have to live w/ taxpayer, but taxpayer pays at least ½ cost of maintaining home for parent = file HofH
EXCEPTION: Lives – Child living w/ you does NOT have to be a dependent of you (divorced dad claim child as dependent, but child lives w/ mom = mom can be HofH)
Maintaining a HH that includes a dependent unrelated friend who does qualify as a dependent
NO HoH filing status à file Single b/c does not satisfy relationship test.
FROM THE BOOK: To qualify for HoH rates, a taxpayer MUST:
Pay for more than half th
pouse on separate returns.
Neither spouse is required to file a return. (See page 3-17).
(6) Citizen/residency or Canada/Mexico.
Tiebreaking rules – not required, only if there is a fight btw parties: (parent wins, whoever has custody of child the longest, if joint – parent w/ more income, person w/ most income).
Benefits (1) Dependency exemption ($4000)
(2) HoH tax credit
(1) Relationship (or member of HH) – related by blood – lineal ascendant, collateral ascendants (uncles, aunts), certain in-laws. Cousins – the only who do not meet.
A cousin may meet a member-of HH test & qualify as a dependent, but will not meet the relationship test -> no HoH filing status.
(2) Support – 50%+ paid by taxpayer – shelter, food, clothing, medical care.
Multiple support agreement – only one gets dependency exemption when mother in a nursing home & each of 3 children pays 1/3 of cost.
(3) Gross Income test – less than exemption amount, i.e. not if income > $4000/ year.
(4) Joint Return – if dependant is married, must file joint return & cannot be claimed as a dependent UNLESS would not have to file.
(5) Citizenship/residency or Canada/Mexico.
REGULATIONS – interpretations by executive power.
Eg 1.451-1 – 451 is the statute interpreted. “-1” is the type of regulation – income, procedural, estate, etc.
· (1) interpretive regulations – dep’ment of treasury.
o Courts more lenient to overturn but only if it conflicts w/ the statute (even if other interpretations can be reasonable).
· (2) legislative regulations – Congress instructs the Secretary of Treasury to come up w/ a regulation. à Courts give a lot of deference.
· 461 section, (h) subsection, (2) paragraph (A) subparagraph (ii) sub-sub-pararaph.
· Words of limitation – for purposes of subsection, for purposes of this title.
WHO IS THE TAXPAYER?
· 2 sources of income:
o Labor (services) — “Income is taxed to person who earns it” (Lucas v. Earl, 1930)
§ Garnishment: Chambers: Amts garnished are not excludable from income, full AMT taxed.
§ Agent: Schuster: Nun who turned checks over to org was earning wages on her behalf and not as agent, therefore wages were taxable
· Is the K w/ the order to do the job, or w/ the nun?
· She will get a charitable deduction though (only 50% taxed).
· Different eg: a plumber is an agent of Sears.