"As of January 29, 2018, the Internal Revenue Service (IRS) officially started accepted tax returns for the 2017 tax year. As a result, unique individuals with unique tax-filing methods, emerged out of the financial shadows. Who are these individuals? Well, they consist of those who are more than confident and skilled enough to file income taxes on their own; those who spent 6 months gathering necessary documentation and clicked “submit” at 12am EST, CST, MST, and PST on January 29th; and finally, those who will make the ultimate mad dash to their nearest H&R Block on April 15th with 5 minutes to spare until close!
No matter where you fall on the tax-filing spectrum, understanding what income taxes are, and why they are essential to the sustainability of the United States, is highly-encouraged. Moreover, while the process of taxation is confusing to a large majority of North Americans, there are a multitude of factors that not only affect how your personal income is taxed, but how the government determines taxable income rates, as well as how tax refunds are processed. So, let’s get started! What Are Income Taxes? Revenue that is earned throughout a calendar year, and that is charged by the federal government, is an income tax. Furthermore, income taxes include but are not limited to: dividends, earnings from self-employment (businesses), lottery winnings, royalties, and unemployment. Additionally, an increased number of Americans are becoming aware of how their tax dollars are dispersed and spent. Thus, according to the IRS, “the money collected from income taxes goes towards federal education programs, the military, welfare programs, and various agencies (such as the EPA and FDA).” Moreover, the IRS notes that when politicians decide that an increase in funding is needed for programs, a raise in income taxes can subsidize these costs. Breaking Down the “Income Tax” Individual Income Tax As gainfully employed individuals (should) know, earned income is not taxed at a full 100%. Deductions, interest paid, dental and medical bills, educational expenses, and more, are subtracted from gross income which determines taxable income. Moreover, the amount of taxable income determined is based on one’s income level. Likewise, because the United States operates under the progressive income tax system, “the more money you earn, the more taxes you have to pay.” Luckily, through the availability of credits, deductions, exclusions, and various other breaks, one can reduce income tax liabilities. Examining the progressive income tax further, the IRS also states that individual taxes are made based on a Pay-As-You-Go system, which means that income taxes are deducted from each paycheck every pay period also known as withholding tax. At the end of each year, if the payments made to IRS were not enough to cover the total income tax due, you owe the federal government and a payment to IRS MUST be made. However, if payments made to IRS were in excess, a repayment will be made to you in the form of an income tax. Tax Bracket The IRS notes that the highest tax rate paid on income is one’s marginal tax bracket. This bracket operates under a gradual tax schedule, which means: the more money made, the more taxes paid. As such, your tax bracket is dependent upon the amount of taxable income earned. A common goal among individuals is to remain in a lower tax bracket so that income is not taxed at a higher rate. State Income Tax Separate from federal tax laws, state taxes are collected by individual state governments. Because there is no uniform system under state taxes, these taxes will greatly vary depending on where one lives, works, and shops. Income Tax Forms The IRS issues several different types of income tax forms. As noted on the IRS’ website, the most commonly used tax return forms are:
With all things, knowing is half of the battle. Therefore, possessing a deeper understanding of income tax laws, and the method of processing tax returns, should help to alleviate confusion, and ultimately reduce unwanted stress.
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Are you saving enough? Are you completing the necessary steps to become financially prepared for retirement? If you have answered “no”, do not fret. For a majority of North Americans, at this current stage, in both their personal and professional lives, thinking about retirement is daunting. Additionally, there are many factors that hinder individuals from properly saving, mainly the repayment of massive debt. To illustrate this claim further, the Schwab Retirement Plan Services (a division of the Charles Schwab Corporation) surveyed 500 North American adult workers, from various age groups, to gather their opinions on saving for retirement. The results highlighted the fact that “millennials are embracing 401(k) retirement savings plans at a high rate despite facing challenges paying back student loans.” Moreover, 86% of millennials noted that a 401(k) is a must have benefit. Therefore, whether a Baby Boomer, Gen Xer (Generation X), or millennial, the consensus is that having a solid source of retirement is imperative.
Figuring out if you are on the right path to retirement depends on your knowledge of the various plans available, and researching which plan is the best fit for you, your prospective goals, and present financial status. Moreover, when exploring how crucial one’s knowledge of available plans is, one can start by researching the competitive plans offered to employees decades ago. For example, 10 - 15 years ago, employees were covered by generous defined benefit programs where pension plans were solely covered by their employer. However, currently, employees are enrolled in defined contribution programs, which is largely funded by the employee. As a result, the onus has shifted from employer to employee when saving for the future. Furthermore, no matter how unique one’s plan for retirement is, a shared sentiment is that immersing oneself in ever-expanding financial knowledge is necessary. Thus, to continue said education, explore the retirement options found below: 401(k) Plans Synonymous with retirement saving in the United States, more than 73 million Americans within the workforce participate in a 401(k) plan. As such, in order to qualify for a 401(k), one must work for a company that sponsors such plan. Next, once an account has been established, one must contribute a percentage of their salary each pay period, with an employer generally offering a matching contribution. Most 401(k) contributions are made on a pre-tax basis, which means that the percentage is withdrawn from the paycheck before it is taxed. As a result, prospective retirement funds are able to grow without the burden of taxation. 403(b) Plans Plans of this nature are offered to employees of churches, government entities, non-profit organizations, and public schools. As such, employees establish and maintain their own accounts at financial institutions designated by their employer. Likewise, similar to a 401(k) plan, 403(b) contributions are made on a pre-tax basis. Additionally, the money withdrawn is often used to purchase an annuity contract from an insurance company or a custodial account to store investments. 457 Plans Local and state government entities, as well as non-profit organizations, offer 457 plans. Although similar to the 403(b) plan, the 457 plan is different in a variety of ways. First, there is no 10% penalty for withdrawing money before the age of 59 ½ (although the taxation paid on these withdrawals are in accordance with regular income tax rates). Second, employer matching contribution is not allowed. Individual Retirement Accounts (IRAs) Introduced in 1975 as the first government-sponsored, tax-advantaged account offered to North Americans to help save for retirement, IRA accounts are one of the most-recognized, and well-respected, options offered to employees. Moreover, there are two IRA options available: Traditional IRAs and Roth IRAs. Under the traditional IRA, one can benefit from long-term tax-deferred growth while also receiving tax deductions that are equal to the amount of your annual contribution. Additionally, IRAs are funded on a pre-tax basis, with retirees paying taxes on their distributions at an ordinary income tax rate. However, be advised that a 10% penalty looms should withdrawals be made prior to age 59 ½. With Roth IRAs, contributions are made on an after-tax basis, thus there is no tax benefit. However, the trade-off is that earnings are tax-free when withdrawn in retirement. One difference to note between traditional IRAs and Roth IRAs is that you can withdraw contributions without penalty at any age! Furthermore, it is worth noting that there is an IRA contribution limit for both the traditional IRA and Roth IRA combined: $6,500 if you are 50 years of age or older. Finally, if your income is too high, you are not allowed to contribute to a Roth IRA. Simplified Employee Pension Individual Retirement Agreement (SEP IRA) For those who are either self-employed, or self-employed with employees, this plan is ideal. Such a plan is offered to provide business owners, and their employees, retirement benefits. SEP IRA funds can be invested in the same way as funds under most IRAs, with contributions made to the account being tax-deferred and in turn receiving a tax-deductible. Such a tax-deductible can further reduce your tax bill. Lastly, if one is self-employed, one can store a large lump sum in the value of $55,000 or 25% of gross earnings, whichever is less. Savings Incentive Match Plan for Employees (SIMPLE IRAs) SIMPLE IRAs are geared towards small businesses, with 100 or fewer employees, and those who identify as self-employed. Thus, under this plan, both employers and employees can contribute money in a similar fashion to that of a traditional IRA. The contribution limit is $15,550 if you are 50 years of age or older. Although it is widely assumed that millennials are frivolous with finances, we are boldly proving that we are, perhaps, not inept when it comes to saving money. Let us continue to bust myths as we help steer the course to a solid financial future! |
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