Personal Income Tax: Overview
The government collects income tax from U.S. residents each year. Personal income tax revenues help fund programs and services like Social Security, Medicare, schools, roads, national security, and the welfare system. If employed, an individual's employer will withhold income taxes. Because self-employed individuals do not have taxes withheld, they will generally pay estimated taxes throughout the year.
Filing a Personal Income Tax Return
- What income is subject to income tax? Individuals must pay taxes on income, including wages, salaries, tips, commissions, business income, rents, dividends, alimony, capital gains, IRA distributions, unemployment benefits, and Social Security benefits if the recipient's total income exceeds a certain amount.
- What kinds of deductions can I take? Tax deductions are adjustments to an individual's taxable income. For every dollar of deductions that an individual has, the amount of income the the government levies taxes on decreases by a dollar. A taxpayer can take the standard deduction or itemize deductions. Common deductions include student loan interest, college tuition, medical and dental costs, mortgage points, mortgage interest, theft or casualty losses, property taxes, state income taxes, charitable contributions, and home office expenses.
- What are tax credits? Tax credits reduce an individual's tax liability dollar for dollar. For every dollar of tax credits that an individual has, the dollar amount of the taxes that they must pay goes down by a dollar. Every year new tax credits become available, but common credits include the earned income credit, first-time homebuyer credit, child and dependent care credit, adoption credit, Hope and Lifetime Learning credit, credit for the elderly and disabled, and retirement savings contributions credit.
- Can I obtain an extension if I am unable to file my tax return by April 15? If a taxpayer is unable to file a return on time, the taxpayer can make a request for an automatic extension by filing IRS Form 4868. Along with filing the form, it is necessary to pay all of the tax liability or the estimated income tax due. The extension to file does not extend the time to pay.
- What happens if I fail to file a tax return? If six years have not elapsed from the date the tax return was due, the IRS can seek criminal charges against the taxpayer. The IRS can also pursue collection activities without any time constraints. In addition, failing to file a tax return by the deadline can result in the assessment of penalties and interest on the tax debt, the filing of a substitute return for the taxpayer by the IRS, and the IRS can begin collection activities -- including levying wages and bank accounts and placing a lien on real property -- after assessing the tax debt.
- Do I have to file a tax return if I live in another country? A U.S. citizen earning income abroad must still file a tax return and pay taxes to the U.S. government. If qualified for the foreign earned income exclusion, the taxpayer may exclude foreign income up to $91,400. The taxpayer may also qualify for the foreign housing exclusion and deduction. In some countries, the taxpayer may also have to pay income taxes in the country they reside in.
- What types of activities may trigger an audit by the IRS? It is difficult to completely audit-proof a tax return, but some taxpayer activities may stand out. For instance, the IRS may scrutinize a self-employed person more than an employed taxpayer because there is more opportunity to hide income and claim personal expenses as business expenses.
Paying Personal Income Tax
- Can I pay my tax debt in an installment plan? A taxpayer that is unable to pay their tax debt by the deadline may work out an installment agreement with the IRS. An installment agreement allows the payment of the debt in installments, but interest and penalties will apply. To qualify, the taxpayer must be current on their tax return filings. A taxpayer that owes more than $25,000 will need to request approval of a proposed installment agreement.
- Can I settle my tax debt with the IRS? In some cases, the IRS will agree to settle a tax debt for less than what the taxpayer owes. Requests to settle debts are called "offers in compromise" (OIC). If the debtor can pay the full tax liability in an installment plan or by another method, the IRS will most likely deny a settlement request. The IRS may accept a request based on three reasons: there is doubt about the tax liability, there is doubt that the tax debt is collectible, or collecting the tax liability would create economic hardship or an exceptional circumstance makes it unfair.
- Will bankruptcy eliminate tax debt? In most circumstances, tax liability survives bankruptcy. In Chapter 13, the debtor will have to pay the debt in full in a repayment plan and the debtor will most likely continue to owe the debt at the conclusion of a Chapter 7. However, a taxpayer may discharge tax liability in Chapter 7 upon the fulfillment of certain conditions.
Consider speaking with an accountant or tax attorney if you have additional questions about filing and paying your personal income tax.