Income tax

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Taxation
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An income tax is a government levy (tax) imposed on individuals or entities (taxpayers) that varies with
the income or profits (taxable income) of the taxpayer. Details vary widely by jurisdiction. Many
jurisdictions refer to income tax on business entities as companies tax or corporation tax. Partnerships
generally are not taxed; rather, the partners are taxed on their share of partnership items. Tax may be
imposed by both a country and subdivisions thereof. Most jurisdictions exempt locally organized
charitable organizations from tax.
Income tax generally is computed as the product of a tax rate times taxable income. The tax rate may
increase as taxable income increases (referred to as graduated rates). Tax rates may vary by type or
characteristics of the taxpayer. Capital gains may be taxed at different rates than other income. Credits
of various sorts may be allowed that reduce tax. Some jurisdictions impose the higher of an income tax
or a tax on an alternative base or measure of income.
Taxable income of taxpayers resident in the jurisdiction is generally total income less income producing
expenses and other deductions. Generally, only net gain from sale of property, including goods held for
sale, is included in income. Income of a corporation's shareholders usually includes distributions of
profits from the corporation. Deductions typically include all income producing or business expenses
including an allowance for recovery of costs of business assets. Many jurisdictions allow notional
deductions for individuals, and may allow deduction of some personal expenses. Most jurisdictions
either do not tax income earned outside the jurisdiction or allow a credit for taxes paid to other
jurisdictions on such income. Nonresidents are taxed only on certain types of income from sources
within the jurisdictions, with few exceptions.
Most jurisdictions require self-assessment of the tax and require payers of some types of income to
withhold tax from those payments. Advance payments of tax by taxpayers may be required. Taxpayers
not timely paying tax owed are generally subject to significant penalties, which may include jail for
individuals or revocation of an entity's legal existence.
Contents
[hide]
1 Common principles
o 1.1 Taxpayers and rates
o 1.2 Residents and nonresidents
o 1.3 Defining income
o 1.4 Deductions allowed
o 1.5 Business profits
o 1.6 Credits
o 1.7 Alternative taxes
o 1.8 Administration
o 1.9 State, provincial, and local
o 1.10 Wage based taxes
2 Economic and policy aspects
o 2.1 Criticisms
3 History
o 3.1 China
o 3.2 United Kingdom
o 3.3 United States
4 Around the world
5 Transparency and public disclosure
6 See also
7 Notes
8 External links
Common principles[edit]
While tax rules vary widely, there are certain basic principles common to most income tax systems. Tax
systems in Canada,
[1]
China, Germany, Singapore, the United Kingdom,
[2]
and the United States,
[3]
among
others, follow most of the principles outlined below. Some tax systems, such as India, may have
significant differences from the principles outlined below. Most references below are examples; see
specific articles by jurisdiction (e.g., Income tax in Australia).
Taxpayers and rates[edit]
Individuals are often taxed at different rates than corporations.
[1][2][3][4]
Individuals include only human
beings. Tax systems in countries other than the USA treat an entity as a corporation only if it is legally
organized as a corporation. Estates and trusts are usually subject to special tax provisions. Other taxable
entities are generally treated as partnerships. In the USA, many kinds of entities may elect to be treated
as a corporation or a partnership. Partners of partnerships are treated as having income, deductions,
and credits equal to their shares of such partnership items.
Separate taxes are assessed against each taxpayer meeting certain minimum criteria. Many systems
allow married individuals to request joint assessment. Many systems allow controlled groups of locally
organized corporations to be jointly assessed.
Tax rates vary widely. Some systems impose higher rates on higher amounts of income. Example:
Elbonia taxes income below E.10,000 at 20% and other income at 30%. Joe has E.15,000 of income. His
tax is E.3,500. Tax rates schedules may vary for individuals based on marital status.
[5]

Residents and nonresidents[edit]
Residents are generally taxed differently than nonresidents. Few jurisdictions tax nonresidents other
than on specific types of income earned within the jurisdiction. See, e.g., the discussion of taxation
by the United States of foreign persons. Residents, however, are generally subject to income tax on all
worldwide income.
[6]
A very few countries (notably Singapore and Hong Kong) tax residents only on
income earned in or remitted to the country.
Residence is often defined for individuals as presence in the country for more than 183 days. Most
countries base residence of entities on either place of organization or place of management and control.
The United Kingdom has three levels of residence.
Defining income[edit]
Most systems define income subject to tax broadly for residents, but tax nonresidents only on specific
types of income. What is included in income for individuals may differ from what is included for entities.
The timing of recognizing income may differ by type of taxpayer or type of income.
Income generally includes most types of receipts that enrich the taxpayer, including compensation for
services, gain from sale of goods or other property, interest, dividends, rents, royalties, annuities,
pensions, and all manner of other items.
[7]
Many systems exclude from income part or all of
superannuation or other national retirement plan payments. Most tax systems exclude from income
health care benefits provided by employers or under national insurance systems.
Deductions allowed[edit]
Nearly all income tax systems permit residents to reduce gross income by business and some other
types of deductions.
[1][2][3][4]
By contrast, nonresidents are generally subject to income tax on the gross
amount of income.
Expenses incurred in a trading, business, rental, or other income producing activity are generally
deductible, though there may be limitations on some types of expenses or activities. Business expenses
include all manner of costs for the benefit of the activity. An allowance (as a capital allowance or
depreciation deduction) is nearly always allowed for recovery of costs of assets used in the activity.
Rules on capital allowances vary widely, and often permit recovery of costs more quickly than ratably
over the life of the asset.
Most systems allow individuals some sort of notional deductions or an amount subject to zero tax. In
addition, many systems allow deduction of some types of personal expenses, such as home mortgage
interest or medical expenses.
Business profits[edit]
Only net income from business activities, whether conducted by individuals or entities is taxable, with
few exceptions. Many countries require business enterprises to prepare financial statements
[8]
which
must be audited. Tax systems in those countries often define taxable income as income per those
financial statements with few, if any, adjustments. A few jurisdictions compute net income as a fixed
percentage of gross revenues for some types of businesses, particularly branches of nonresidents.
Credits[edit]
Nearly all systems permit residents a credit for income taxes paid to other jurisdictions of the same sort.
Thus, a credit is allowed at the national level for income taxes paid to other countries. Many income tax
systems permit other credits of various sorts, and such credits are often unique to the jurisdiction.
Alternative taxes[edit]
Some jurisdictions, particularly the United States and many of its states and Switzerland, impose the
higher of regular income tax or an alternative tax. Switzerland and U.S. states generally impose such tax
only on corporations and base it on capital or a similar measure.
Administration[edit]
Income tax is generally collected in one of two ways: through withholding of tax at source and/or
through payments directly by taxpayers. Nearly all jurisdictions require those paying employees or
nonresidents to withhold income tax from such payments. The amount to be withheld is a fixed
percentage where the tax itself is at a fixed rate. Alternatively, the amount to be withheld may be
determined by the tax administration of the country or by the payer using formulas provided by the tax
administration. Payees are generally required to provide to the payer or the government the
information needed to make the determinations. Withholding for employees is often referred to as pay
as you earn (PAYE) or pay as you go.
Nearly all systems require those whose proper tax is not fully settled through withholding to self assess
tax and make payments prior to or with final determination of the tax. Self-assessment means the
taxpayer must make a computation of tax and submit it to the government.
State, provincial, and local[edit]
Income taxes are separately imposed by sub-national jurisdictions in several countries with federal
systems. These include Canada, Germany, Switzerland, and the United States, where provinces, cantons,
or states impose separate taxes. In a few countries, cities also impose income taxes. The system may be
integrated (as in Germany) with taxes collected at the federal level. In Income tax in Canada#Personal
income taxesQuebec and the United States, federal and state systems are independently administered
and have differences in determination of taxable income.
Wage based taxes[edit]
Income taxes of workers are often collected by employers under a withholding or Pay-as-you-earn
tax system. Such collections are not necessarily final amounts of tax, as the worker may be required to
aggregate wage income with other income and/or deductions to determine actual tax. Calculation of the
tax to be withheld may be done by the government or by employers based on withholding allowances or
formulas.
Retirement oriented taxes, such as Social Security or national insurance, also are a type of income tax,
though not generally referred to as such. These taxes generally are imposed at a fixed rate on wages or
self-employment earnings up to a maximum amount per year. The tax may be imposed on the
employer, the employee, or both, at the same or different rates.
Some jurisdictions also impose a tax on employers to fund unemployment or similar government
outlays. Such taxes are generally not considered income taxes.
[1]

[2]

[3]

[4]

Economic and policy aspects[edit]
Main article: Tax#Economic effects

This section
requires expansion. (August
2013)
Multiple conflicting theories have been proposed regarding the economic impact of income
taxes.
[9]
Income taxes are widely viewed as a Progressive tax, meaning the incidence of tax increases as
income increases.
Criticisms[edit]
Tax avoidance strategies and loopholes tend to emerge within income tax codes. These get created
when tax payers find legal methods to avoid paying taxes. Lawmakers then attempt to close the
loopholes with additional legislation. This leads to a vicious cycle of ever more complex avoidance
strategies and legislation.
[10]
This vicious cycle tends to benefit large corporations and wealthy
individuals that can afford the professional fees that come with ever more sophisticated tax
planning,
[11]
thus challenging the notion that even a marginal income tax system can be properly called
a progressive tax.
The higher costs to labour and capital imposed by income tax causes deadweight loss in an economy,
being the loss of economic activity from people deciding not to invest capital or use time productively
due to the burden tax would impose on those activities. There is also a loss from individuals and
professional advisors devoting time to tax avoiding behaviour instead of economically productive
activities.
[12]

History[edit]
The concept of taxing income is a modern innovation and presupposes several things:
a money economy, reasonably accurate accounts, a common understanding of receipts, expenses
andprofits, and an orderly society with reliable records. For most of the history of civilization, these
preconditions did not exist, and taxes were based on other factors. Taxes on wealth, social position, and
ownership of the means of production (typically land and slaves) were all common. Practices such
as tithing, or an offering of first fruits, existed from ancient times, and can be regarded as a precursor of
the income tax, but they lacked precision and certainly were not based on a concept of net increase.
China[edit]
In the year 10 AD, Emperor Wang Mang of the Xin Dynasty instituted an unprecedented income tax, at
the rate of 10 percent of profits, for professionals and skilled labor. He was overthrown 13 years later in
23 AD and earlier policies were restored during the reestablished Han Dynasty which followed.
[13]

United Kingdom[edit]


Punch cartoon (1907); illustrates the unpopularity amongst Punch readers of a proposed 1907 income
tax by the Labour Party in the United Kingdom.
Main article: Taxation in the United Kingdom#History
One of the first recorded taxes on income was the Saladin tithe introduced by Henry II in 1188 to raise
money for the Third Crusade.
[14]
The tithe demanded that each layperson in England be taxed a tenth of
their personal income and moveable property.
[15]
However, the inception date of the modern income
tax is typically accepted as 1799.
[16]

Income tax was announced in Britain by William Pitt the Younger in his budget of December 1798 and
introduced in 1799, to pay for weapons and equipment in preparation for the Napoleonic wars. Pitt's
new graduated income tax began at a levy of 2d in the pound (0.8333%) on annual incomes over 60
and increased up to a maximum of 2s in the pound (10%) on incomes of over 200 (170,542 in 2007).
Pitt hoped that the new income tax would raise 10 million (8,527,100,000 in 2007), but actual receipts
for 1799 totalled just over 6 million.
[17]

The tax was repealed in 1816 and opponents of the tax, who thought it should only be used to finance
wars, wanted all records of the tax destroyed along with its repeal. Records were publicly burned by the
Chancellor of the Exchequer but copies were retained in the basement of the tax court.
[18]

United States[edit]
Main article: Income tax in the United States
In order to help pay for its war effort in the American Civil War, the US federal government imposed its
first personal income tax, on August 5, 1861, as part of the Revenue Act of 1861 (3% of all incomes over
US $800) ($20,785 in 2013 dollars).
[19][verification needed]
This tax was repealed and replaced by another
income tax in 1862.
[20][verification needed]

In 1894, Democrats in Congress passed the Wilson-Gorman tariff, which imposed the first peacetime
income tax. The rate was 2% on income over $4000 ($107,923.08 in 2013 dollars), which meant fewer
than 10% of households would pay any. The purpose of the income tax was to make up for revenue that
would be lost by tariff reductions.
[21]
In 1895 the United States Supreme Court, in its ruling in Pollock v.
Farmers' Loan & Trust Co., held a tax based on receipts from the use of property to be unconstitutional.
The Court held that taxes on rents from real estate, on interest income from personal property and
other income from personal property (which includes dividend income) were treated as direct taxes on
property, and therefore had to be apportioned. Since apportionment of income taxes is impractical, this
had the effect of prohibiting a federal tax on income from property. However, the Court affirmed that
the Constitution did not deny Congress the power to impose a tax on real and personal property, if
apportioned, and it affirmed that such would be a direct tax.
[22]
Due to the political difficulties of taxing
individual wages without taxing income from property, a federal income tax was impractical from the
time of the Pollock decision until the time of ratification of the 16th Amendment in 1913.
In 1913, the Sixteenth Amendment to the United States Constitution made the income tax a permanent
fixture in the U.S. tax system. The United States Supreme Court in its ruling Stanton v. Baltic Mining
Co. stated that the amendment conferred no new power of taxation but simply prevented the courts
from taking the power of income taxation possessed by Congress from the beginning out of the category
of indirect taxation to which it inherently belongs. In fiscal year 1918, annual internal revenue
collections for the first time passed the billion-dollar mark, rising to $5.4 billion by 1920. With the
advent of World War II, employment increased, as did tax collectionsto $7.3 billion. The withholding
tax on wages was introduced in 1943 and was instrumental in increasing the number of taxpayers to 60
million and tax collections to $43 billion by 1945.
[23]

Around the world[edit]
Main articles: Tax rates around the world and International taxation


Systems of taxation on personal income
No income tax on individuals
Territorial
Residential
Citizenship-based
Income taxes are used in most countries around the world. The tax systems vary greatly and can
be progressive, proportional, or regressive, depending on the type of tax. Comparison of tax rates
around the world is a difficult and somewhat subjective enterprise. Tax laws in most countries are
extremely complex, and tax burden falls differently on different groups in each country and sub-national
unit. Of course, services provided by governments in return for taxation also vary, making comparisons
all the more difficult.
Countries that tax income generally use one of two systems: territorial or residential. In the territorial
system, only local income income from a source inside the country is taxed. In the residential
system, residents of the country are taxed on their worldwide (local and foreign) income, while
nonresidents are taxed only on their local income. In addition, a very small number of countries, notably
the United States, also tax their nonresident citizens on worldwide income.
Countries with a residential system of taxation usually allow deductions or credits for the tax that
residents already pay to other countries on their foreign income. Many countries also sign tax
treaties with each other to eliminate or reduce double taxation.
Countries do not necessarily use the same system of taxation for individuals and corporations. For
example, France uses a residential system for individuals but a territorial system for
corporations,
[24]
while Singapore does the opposite,
[25]
and Brunei taxes corporate but not personal
income.
[26]

Transparency and public disclosure[edit]
Public disclosure of personal income tax filings occurs in Finland, Norway and Sweden.
[27][28]

See also[edit]
Income tax in Australia
Income tax in Canada
Income tax in Greece
Income tax in India
Income tax in the Netherlands
Income tax in Singapore
Income tax in Tanzania
Income tax in the United States
Lifetime income tax
Local income tax
Negative income tax
Papal income tax
Wealth tax
Notes[edit]
1. ^ Jump up to:
a

b

c

d
Income tax in Canada
2. ^ Jump up to:
a

b

c

d
Income tax in the United Kingdom
3. ^ Jump up to:
a

b

c

d
Income tax in the United States
4. ^ Jump up to:
a

b

c
Income tax in India
5. Jump up^ See, e.g., rates under the Germany and United States systems.
6. Jump up^ The Germany system is typical in this regard.
7. Jump up^ See, e.g., gross income in the United States.
8. Jump up^ See, e.g., requirements
9. Jump up^ See, e.g., references in Tax#Economic
effects,Economics#Macroeconomics, Fiscal policy
10. Jump up^ http://www.taxpolicycenter.org/briefing-
book/improve/simplification/why.cfm, Retrieved 19 August 2013
11. Jump up^ http://www.businessweek.com/articles/2012-04-17/how-to-pay-no-taxes-10-
strategies-used-by-the-rich, Retrieved 19 August 2013
12. Jump up^ http://www.investopedia.com/terms/d/deadweight-loss-of-taxation.asp,
Retrieved 19 August 2013.
13. Jump up^ "Wang Mang - Wikipedia, the free encyclopedia". En.wikipedia.org. Retrieved
2013-08-02.
14. Jump up^ "Saladin Tithe".
15. Jump up^ Peter Harris (2006). Income tax in common law jurisdictions: from the origins
to 1820, Volume 1. p. 34.
16. Jump up^ Peter Harris (2006). Income tax in common law jurisdictions: from the origins
to 1820, Volume 1. p. 1.
17. Jump up^ "A tax to beat Napoleon". HM Revenue & Customs. Retrieved 2007-01-24.
18. Jump up^ Adams, Charles 1998. Those Dirty Rotten TAXES, The Free Press, New York, NY
19. Jump up^ Revenue Act of 1861, sec. 49, ch. 45, 12 Stat. 292, 309 (Aug. 5, 1861).
20. Jump up^ Sections 49, 51, and part of 50 repealed by Revenue Act of 1862, sec. 89, ch.
119, 12 Stat. 432, 473 (July 1, 1862); income taxes imposed under Revenue Act of 1862,
section 86 (pertaining to salaries of officers, or payments to "persons in the civil,
military, naval, or other employment or service of the United States ...") and section 90
(pertaining to "the annual gains, profits, or income of every person residing in the
United States, whether derived from any kind of property, rents, interest, dividends,
salaries, or from any profession, trade, employment or vocation carried on in the United
States or elsewhere, or from any other source whatever....").
21. Jump up^ Charles F. Dunbar, "The New Income Tax," Quarterly Journal of
Economics, Vol. 9, No. 1 (Oct., 1894), pp. 2646 in JSTOR.
22. Jump up^ Chief Justice Fuller's opinion, 158 U.S. 601, 634.
23. Jump up^ Young, Adam (2004-09-07). "The Origin of the Income Tax". Ludwig von Mises
Institute. Retrieved 2007-01-24.
24. Jump up^ International tax - France Highlights 2012, Deloitte.
25. Jump up^ International tax - Singapore Highlights 2012, Deloitte.
26. Jump up^ International tax - Brunei Darussalam Highlights 2012, Deloitte.
27. Jump up^ Bernasek, Anna (February 13, 2010). "Should Tax Bills Be Public
Information?". The New York Times. Retrieved 2010-03-07.
28. Jump up^ How much do you make? It'd be no secret in Scandinavia, USA Today, June
18, 2008.
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