benefit principle of taxation with diagram

However, as economists are quick to point out, the employer’s half of the taxes are probably passed along to the employees in the form of lower wages, so in reality, the worker pays all of the payroll taxes. An employee only sees 6.2% deducted from his paycheck for Social Security, and 1.45% from Medicare. In both cases, the employer and the employee split the payroll taxes. Medicare, on the other hand, pays for elderly healthcare, and is fixed at 2.9%, with no upper ceiling. First, the payroll taxes for Social Security are imposed at a rate of 12.4% up to a certain wage limit, set at $118,500 in 2015. The payroll taxes that support Social Security and Medicare are designed in a different way. The key fact here is that the federal income tax is designed so that tax rates increase as income increases, up to a certain level. Since this person earns $35,000, their marginal tax rate is 15%. Also suppose that income from $0 to $9,075 is taxed at 10%, income from $9,075 to $36,900 is taxed at 15%, and, finally, income from $36,900 and beyond is taxed at 25%.

Suppose that a single taxpayer’s income is $35,000 per year. The marginal tax rates (the tax that must be paid on all yearly income) for a single taxpayer range from 10% to 35%, depending on income, as the following Clear It Up feature explains. Taxes also vary with marital status, family size, and other factors. The income tax is a progressive tax, which means that the tax rates increase as a household’s income increases. Although personal income tax revenues account for more total revenue than the payroll tax, nearly three-quarters of households pay more in payroll taxes than in income taxes. Together, the personal income tax and the payroll tax accounted for about 80% of federal tax revenues in 2014. Payroll taxes have increased steadily over time. The second largest source of federal revenue is the payroll tax (captured in social insurance and retirement receipts), which provides funds for Social Security and Medicare. The personal income tax is the largest single source of federal government revenue, but it still represents less than half of federal tax revenue.

When most people think of taxes levied by the federal government, the first tax that comes to mind is the individual income tax that is due every year on April 15 (or the first business day after). Table B-21, )įigure 1 also shows the patterns of taxation for the main categories of taxes levied by the federal government: individual income taxes, corporate income taxes, and social insurance and retirement receipts. (Source: Economic Report of the President, 2015. Corporate income taxes and social insurance taxes provide smaller shares of revenue. The primary sources of federal taxes are individual income taxes and the payroll taxes that finance Social Security and Medicare. Federal tax revenues have been about 17–20% of GDP during most periods in recent decades.

Benefit principle of taxation with diagram