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Tax
Wayne State University Law School
Schenk, Alan

-Schenk, Taxation – Fall 2010
-Introduction to the Federal Taxation System
-Brief History
-The top tax bracket: JFK reduced from 91% to 70%
-It was then reduced to 50%
-Reagan reduced to 28% in 1986
-It then went up to 39%, before Bush tax cuts
-Now it is 35%
-Allied Tax Mission
-After WWII, there was an economic mission that was sent to Japan to determine what they should do with their tax system because the central government was too powerful and the local governments too weak. An economist headed that mission, one comment was:
-“Ultimately, the tax system must represent the shared values of the population as to what is fair.”
-Therefore, you can see that over the years from 1960 to day our concept of what is fair has changed dramatically. It also has not gone in one direction consistently.
-Current Tax Brackets:
-10%, 15%, 25%, 28%, 33% ,35%
-People with incomes between $100,000 and $1 mil pay ¾ of all Federal Tax
-State and Local Government Taxes
-Primarily state income taxes and sales taxes
-Tax Compliance
-The government says that about 85% of the income that should be reported is reported. The amount that is not reported is hundreds of billions of dollars of income.
-Among the 15% of the income that is not reported are those that are:
-Engaged in Illegal activities
-Gambling
-Drugs
-Prostitution
-Taxpayers that Have the Opportunity to Cheat
-Those that are engaged in business for themselves and can under-report their sales
-Mistakes on behalf of taxpayer
-“Tax Protestor”
-Tax Fraud – MUST prove INTENT
-A valid defense is saying “I didn’t know.”
-GLOBAL TAX System – If you are a US Citizen / Resident, you are taxed on worldwide income
-HYPO: If you win $!0k at Windsor Casino, that money must be reported as foreign income
-This would be as opposed to a territorial tax system, where only income earned in that territory is taxed
-Consequences of the National Debt
-How do we solve it?
-Reduce Government Spending
-There’s a lot of talk about doing this until you start to talk about what to cut
-Congress doesn’t seem capable of doing so regardless of whether you have a Republican or Democratic Congress
-Raise Taxes
-You could raise the income tax somehow
-Raise payroll taxes
-These are the taxes that fund Social Security and Medicare
-Employers and Employees each pay 6.2% SS tax on the first $87,000 of earnings, and a 1.45% Medicare tax on all wages
-Increase Estate and Gift Taxes
-Adding some new kind of federal tax
-The one that’s mentioned the most is often a national sales tax of Value Added Tax (VAT), like the rest of the world has. We are the only major industrialized nation in the world that doesn’t use the VAT.
-There’s been discussion of a Flat Tax
-In the 2000 Presidential Election there were proposals for a flat tax with a consumption base, not income base.
-Consumption Base: This has been proposed by people like Dick Armey and Forbes. This would not tax returns to savings. As a result, it would not tax interest, dividends, gains on dispositions of assets like stocks and bonds and therefore most of what is left for a consumption based income tax is income from labor.
-Therefore, under a consumption based income tax any high income individual like Bill Gates that have wealth in the billions would sell some of their stock and have a hundred million dollars in gain under a flat tax with a consumption base but there would be no income tax on that gain.
-But the advocates of the flat tax would never tell you that. People thought they were talking about a flat-rate income tax.
-Income Base: This would be simplifying the income base by having a single rate, but otherwise not changing the tax base.
-The Three Legs of the Tax System: Equity, Efficiency, Simplicity
-1. Equity
-a. Horizontal Equity – Is satisfied when those of equal incomes are taxed equally
-b. Vertical Equity – Is satisfied when taxpayers with unequal income are taxed unequally
-This is the concept that supports Progressive Taxation. When your income goes up, you should be paying, as a percentage, more than those with lower income.
-2. Efficiency
-This requires that a tax interfere with as little as possible with people’s economic behavior. The benchmark is allocation of goods and services that would occur in market conditions absent taxes.
-Is satisfied when taxpayers are not making business decisions based on the tax law.
-But, in some fundamental sense, describing economic efficiency this way is nonsensical because a market economy simply cannot function in the absence of government institutions.
-The institutions are finan

– The exceptions / exclusionary rules), but not all of them are there.
-Itemization – Claiming a deduction for items that are allowed under the code
-You have to actually ELECT to itemize, then you can make all of those itemized deductions
-Deductions take money from your taxable income
-So if your Taxable Income is $100k and you have $2k in deductions, your new taxable income is $98k
-Includes: charitable contributions, taxes that are allowed, interest, casualty losses, medical
-You can always get personal exemptions (personal or kids)
-Almost ¾ of taxpayers do not elect to itemize
-§62 – Defines “Adjusted Gross Income”
-It is a definitional rule, unlike most of the rules in the code which are operative only (they tell you whether it is income, deductible or a credit).
Adjusted Gross Income – Means in the case of an individual (and ONLY individuals),
-Gross Income minus the following Above The Line deductions (including but not limited to):
-Alimony
-Certain retirement savings
-Certain healthcare expenses
-Moving expenses
-Business Losses
-Rent and royalty expense
-Certain employee expenses
-Capital losses
-Interest on education loans
-Standardized Deduction – Under §62(c)(2) is
-For Married-Joint Filers: $10,300
-Single and Married Separate Filers: $5,150
-Head of Household Filers: $7,550
-Again personal exemptions still apply no matter what
-Personal Exemption – Under §151(d), applies whether filer takes standard OR itemized deduction
-Personal exemption is: $3,300
-Tax Credit – A direct reduction in tax (i.e. $1 of credit reduces taxes owed by $1)
-Everyone saves the same amount per amount expended with Credits (as opposed to deductions)
-Credit / Deduction Distinction
-If we are talking about a taxpayer that mar or may not be able to deduct $10k, the benefit of the deduction depends on the